Move your loan in the right direction
The standard progression when dealing with change involves three stages: awareness, transition, and new reality. Whether change occurs gradually or hits like a lightning bolt, when we do become aware of it we may feel overwhelmed, shocked, outraged. If we perceive it to be negative or threatening, we may slip back into old behavior to help cope with it. We ask ourselves, “What’s happening?” or, “Why is this happening to me?” Even if we perceive the change to be positive, we can be anxious. Remember how it felt when you went to that job interview you were so excited about?
Once we acknowledge the change, we begin to feel lost—like we are stumbling in the dark.We know the past is changing, but we’re not quite sure what the future looks like. This is the transition stage. During transition we spend time reflecting on the future, think about what we want, and take action to help move us in that direction. At this point other people help ground us and give us input to gain clarity about our future and the new reality. As the new reality begins to take shape, we feel stronger.We know more about ourselves and what we want.We’re ready to take action and set new goals for ourselves.
The impact of credit on operating income
The paper sector is only mildly exposed, since in general companies generate no more than 20 percent of their revenues in the United States. The more internationally oriented technology and chemical companies like Siemens, Philips and Akzo generate about 30 percent of sales in the United States, and have substantial further sales outside the Euro area. Yet, the impact on operating income is reduced by the fact that a significant part of costs accrues in US operations. Additionally, most industrial companies engage in hedging activities. Among the companies with a high exposure to currency risk are UK companies FKI and Pearson that both generate more than 60 percent of sales in the United States. When the US dollar depreciates significantly, these companies are hit hardest.
With respect to their vulnerability against currency movements, companies from the consumer sector benefit from their broad geographic diversification.
It appears to be common policy to match assets and liabilities in the various regions to minimize overall currency risk. However, while transaction risk is accounted for, companies tend to leave translation risk unhedged. But many of the well-known European consumer companies like Nestle and Unilever have been able to raise funds in US dollars. Thus US dollar denominated debt exceeds assets and earnings. During the US dollar weakness those companies have seen their debt and interest burden diminish faster than their earnings. UK tobacco companies tend to finance a significant part of their business with Euro denominated debt, leaving them exposed to a strengthening of the Euro versus Sterling.
A currency mismatch between credit and revenues
Transaction risk arises when a company has a currency mismatch between its costs and revenues, that is, revenues are generated in one currency while costs are denominated in another, the reporting currency. The sustained depreciation of the US dollar since February 2002, for example, has negatively affected the P&L and cash flow statements of European exporters.
Although it proves difficult to obtain a breakdown of the cost structure of a company by currency, the automotive sector and the aerospace sector seem to be hit most by transaction risk.
Therefore, many companies try to offset at least a part of their currency exposure via natural hedging. That is, they try to match currency flows that result from exports and imports of goods and services. A high degree of flexibility with respect to input factors and capacity utilization of plants in different regions also provides an effective hedge against adverse currency movements. Another possibility of reducing currency risk is through derivatives, primarily forward exchange contracts and currency options. In our experience most companies that are significantly exposed to currency risk use some form of derivatives hedging. Yet, most contracts are set up for a period of 1–2 years at most. In the long term, it is difficult for companies to assess their demand for hedging because they have no reliable information
about the future demand for their products and services so that the future cost and earnings situation is unknown. For longer term trends in exchange rates, natural hedging usually is more effective. Credit analysts often lack a thorough insight in currency hedging strategies, especially with regard to derivatives hedging. Since they are hardly able to assess the true currency exposure in the short term, they tend to prefer the longer term and more transparent natural hedging strategies.