RISK MANAGEMENT POLICY

Transcription

1 RISK MANAGEMENT POLICY The practice of foreign exchange (FX) rik management i an area thrut into the potlight due to the market volatility that ha prevailed for ome time. A a conequence, many corporation have undertaken an aement of whether their FX rik management practice are appropriate for their underlying expoure, a well a whether their financial control pa muter. A part of that proce, a ound formal policy for FX rik management i a major tep toward atifying tandard for financial control. The policy mut lay out clear mandate for action and governance with clearly defined reponibilitie. 1. Objective of Rik Management Policy To etablih a framework for the policy, we outline the principal buine line where the company i equipped and prepared to take rik. Thee need to be monitored a rik that can or cannot be hedged in the market. It i important to identify rik that can be hedged away for example, foreign exchange, interet rate and commodity rik that may affect financial performance. The objective of the propoed Forex Rik Management Policy i a follow: To ae and mitigate the potential exchange rate rik. To define role and reponibilitie of peronnel in charge of rik management. To improve efficiency and afety of rik management function. To impart tranparency to the rik management function. To adopt bet practice. To et benchmark for treaury to operate within rik limit and prudential control. To et the criteria againt which audit function may review the forex treaury. 2. Identification and Quantification of Expoure Expoure are grouped under the heading of tranactional, tranlational and economic expoure. Tranactional expoure would relate to buying or elling in any foreign currency. Tranlational expoure would relate to protecting the value of overea invetment and reported income. Economic expoure might be the mot difficult to capture becaue they relate to iue that uually arie from foreign competition. At thi tage, the policy would pertain only to management of tranactional expoure. Tranactional Expoure may be claified into Committed and Uncommitted Expoure: Page 1 of 9

2 Committed expoure are confirmed foreign exchange tranaction to which the company i irrevocably committed. Uncommitted expoure are potential foreign exchange tranaction which can be identified with a high degree of probability A comprehenive hedging trategy covering committed a well a uncommitted expoure i needed to effectively manage forex rik. 2.1 Expoure Maturity Date The maturity profile of the expoure can be etablihed by two method: Documented maturity date. For example, in the cae of import/export, it i the expected bill payment/realization date (payment date plu uance period, if any). In the cae of loan, it i the maturity date of the loan. Bai pat experience. In ome cae, ome upplier have a hitory of delayed payment. In uch cae, it i bet to ue dicretion bai pat experience to etablih the maturity date of the expoure. RBI guideline (at thi point of time) do not allow extenion of forward contract once booked. Conequently, it i advied that when clubbing multiple expoure together, the outermot maturity date amongt the pool hould be taken a the pool cumulative expoure maturity date. 2.2 Opportunity Rate Spot FX: a tranaction in which one currency i exchanged for another for ettlement (or value) at a rate that i widely traded in the market on a current bai. Forward FX: A tranaction in which one currency i exchanged for another for ettlement on a future date. Thi rate reflect the interet differential between two currencie and i traded widely in the market for a future date. Forward tranaction can be cancelled any time during it tenure at a rate derived from the then prevalent pot rate and forward premium of the reidual tenor. 3. Rik Management Policie and Reponibilitie The chain of reponibility for making deciion and executing them i to be formally etablihed. Baic guideline and range of acceptable hedging activity hould alo be etablihed. 3.1 Baic Rik Management Guideline Page 2 of 9

3 The Company will not participate in peculative tranaction. Speculative activitie would include any action that would add to, rather than reduce, the financial rik of the company. Full tatutory compliance of the FEMA, Rule, and guideline iued by RBI/any other government agency. An expoure hall be recognized a per the Guideline precribed by the Reerve Bank of India (RBI) 3.2 Rik Management Role and Reponibilitie Treaury Committee / CFO To erve a a forum for evaluation and approval of: Hedging trategie on an ongoing bai Exiting and new hedging intrument To enure that rik management practice are in compliance with the policy framework To review and recommend any change in the Forex Policy and Procedure To review change in FEMA, if any The committee hall meet every Treaurer/ FX Controller: To cloely tudy the market, monitor opportunitie for hedging forex and interet rate rik and ubmit recommendation to the Treaury Committee/CFO. To execute the approved hedging trategie To enure effective and efficient functioning of the day to day activitie pertaining to forex rik management. To be reponible for adminitrative activitie related to the forex operation To undertand new intrument and prepare a note on the ame for dicuion in Treaury Committee meeting To keep track of the change in the FEMA guideline and to report on it impact to the borard a and when neceary. To review and approve report generated by the back office Page 3 of 9

4 Back office In-charge To enure the effective and efficient functioning of the back office operation pertaining to forex operation To enure proper recording of expoure and coverage detail in a ytematic manner, to end and receive deal confirmation. To enure circulation of timely and accurate daily, weekly and ly report to the management to ae the efficiency of the rik management activitie 4. Hedging Policy In thi ection, hedging trategie to manage rik are explicitly identified. In order to provide additional flexibility, a range of approved product, including forward contract, option, and other permitted derivative are recommended. The pecific hedging technique elected will depend on the circumtance of each expoure. For example, if certainty of an outcome i the main objective, forward are likely to be the required product. Alternatively, for competitive reaon, a company may need upide potential from currency movement. In thi cae, option and derivative trategie will provide the deired trade-off of protection againt advere market move while preerving upide potential from the underlying expoure. It i adviable to provide a broad choice of hedging intrument at the outet ince amending the policy later to include more choice i uually adminitratively burdenome. 4.1 Hedging guideline Reponibility for the day-to-day management of the currency rik of the company lie with the Treaurer/ FX Controller. Hedging activitie hall be conducted in compliance with RBI regulation Only thoe financial intrument permitted by RBI and authorized by thi policy hall be ued for hedging Expoure management hall be conducted in line with the prudential control a laid down under thi policy Page 4 of 9

5 Thi policy prohibit ue of intrument and undertaking of tranaction which are not permitted by the RBI 4.2 Authorized Intrument The intrument permitted by thi policy to hedge forex expoure are: Cah, Tom and Spot deal Forward Contract Currency Option Currency Swap Principal Only Swap (POS) Interet Rate Swap (IRS) Other permitted derivative 4.3 Hedging Strategy The deciion to hedge all expoure will be taken on the bai of guideline below: The Forex dek will dicu market condition with member bank and adopt uitable hedging trategy from amongt the following choice: 1. Unhedged poition If the forex dek emerge with the view that Spot will outperform the forward, the poition will be kept open. The opportunity rate would be identified at uch time for record purpoe. The choice of opportunity rate would depend on the hedging trategy (a below) ued by the company. 2. Hedged poition If the forex dek emerge with the view that Spot will not outperform the forward, the poition will be hedged uing bulk booking route. Thi i a rear-ended trategy which offer mot convenience in term of monitoring and logitical eae. Baed on hitorical data, the corporate would have a reaonable idea about the flow expected over the next 6. At a uitable time in the current running half-year, depending on the view of the company and their advior (bank, etc.), the corporate would book forward rate for each of the next half year. The market offer rate which can be kept applicable for an entire and thi facility may be ued. Page 5 of 9

6 The opportunity rate for unhedged poition under thi trategy would be the forward rate applicable for each in the next half year a determined on the firt day of the current half year. 3. The corporate may freely ue the pat performance limit, a permitted and modified by RBI from time to time, in order to book forward for hedging. The current guideline cap uch hedging at higher of a) average of lat 3 year' total expoure or b) lat year expoure. However, there i a retriction that once booked on pat performance, only 25% of the ame can be cancelled / rebooked; ie 75% ha to be necearily utilied. 4. Any liability or aet related forward (for example loan diburement, repayment, interet payment) hould be covered independently for their pecific maturity date if hedged. However, depending upon view or preence of offetting flow, they may be kept unhedged. 5. The following minimum amount hould ideally be hedged for each forward bucket: Expoure Maturity Date Range <6 Month Hedging Percentage Dicretionary (Advied minimum 34%) Review to be done on Fortnightly bai Expoure Maturity Date Range 6-12 Month Hedging Percentage 66% Review to be done on Monthly bai Expoure Maturity Date Range Minimum Hedging Percentage Review to be done on >12 Month at leat 50 % for trade flow, 100% for capital flow Quarterly bai (Wait for the ret of thee flow to move into the 6 12 bucket and then follow the policy). 5. Monitoring, Reporting and Evaluation Page 6 of 9

7 Once rik management action have been taken, the hedge choice and action need to be monitored for performance. The underlying expoure mut be monitored on an on-going bai to enure that the poition doe not become over or under hedged. Reponibility for the appropriate meaurement and management reporting ret with Back office In-charge The chain of reponibility to whom the reult are communicated and in what format i defined in Appendix 1 and 2. If there i ever any evidence of an erroneou outcome or impropriety, it ha to be immediately reported to the Treaury Committee / CFO. Finally, there hould be a ecure et of control for meauring the hedging outcome. Any preadheet ued for meauring purpoe hould have a ecure backup in an audit function. To the extent poible, hard-coded formula hould be ued to avoid corruption of internal equation. A uggeted method for tracking the health of the expoure i attached a Appendix 1. A uggeted reporting framework i attached in Appendix 2. Rik management hould be a proce of continuou improvement. The policy itelf hould be viewed a a living document. Within the policy, there hould be an explicit commitment to review the policy on an annual bai to confirm that it i meeting it compliance objective of rik reduction and enabling the company to reach it financial goal. Thi proce hould be documented, reviewed, approved and igned o that the mandated officer can attet to the integrity of the proviion on an on-going bai. 6. Concluion The benefit of comprehenive FX rik management would be realized through a more predictable and table financial performance. A well-crafted rik management policy i an eential component of thi proce. Once goal and reponibilitie have been made clear, every peron in treaury will benefit from the welldefined mandate. And ultimately, the hareholder will benefit the mot from improved financial control and performance. Summarizing, thi Forex Policy eek to lay out guideline to achieve the following : To ae and mitigate potential exchange rate rik. Page 7 of 9

8 To leverage the foreign exchange market to improve margin realization of the company. To highlight hedging trategie for creating predictable cah flow To define role and reponibilitie of peronnel in charge of rik management. To et the criteria againt which the company may review the forex treaury. Appendix 1: Performance Tracker A Expoure Table Cutomer 1 Cutomer 2 Cutomer 3 A.1 Total Export Receivable Supplier 1 Supplier 2 Supplier 3 A.2 Total Import Payable A.3 Loan Repayment A.4 =A.1-A.2- A.3 Total Expoure >12 B Hedged Expoure B.1 Total Value B.2 Weighted Average Rate B.3 Current Spot B.4 Average Forward premium B.5 = B.3+B.4 Average Outright Forward B.6 = B.2-B.5 MTM profit >12 C C.1=A.4-B.1 Unhedged Expoure Total Value >12 Page 8 of 9

9 Weighted average Opportunity C.2 Rate C.3 Current Spot C.4 Average Forward premium C.5 = C.3+C.4 Average Outright Forward C.6 = C.2-C.5 Opportunity profit D Overall Performance D.1=B.6 MTM Profit on Hedged Opportunity Profit on D.2=C.6 Unhedged D.3 Total Profit D.4 Profit lat cycle Average Profit for lat ix D.5 cycle >12 Appendix 2: Reporting Framework (to be prepared by Back office In-charge) Performance Treaury committee Treaurer/ FX Audit Report Board of Director / CFO Controller Committee Quarterly (Treaury Review) x x x x Monthly Review x x Weekly (Summary) x x Daily Rik Report Other Internal Report x x Page 9 of 9