The holiday season is a common time for big discounts, but it’s also a time of high demand, when a second’s hesitation to search for an alternative at a preferred retailer or a double check for a better price elsewhere can turn into disappointment. One policy some major retailers have adopted to help consumers pull the trigger on a big purchase with confidence is a price-drop policy. For example, when Wirecutter’s Marilyn Ong purchased a Novaform mattress at Costco, she was thrilled — until the price dropped $150 shortly afterward for a seasonal sale. Thanks to Costco’s price-drop policy, she simply brought in her receipt and received a refund with ease. This kind of customer-first approach mirrors the role FX forward contracts play for businesses. Just as Costco protects shoppers from post-purchase regret, FX forwards shield businesses buying and selling international goods from unpredictable currency swings. By adding a feature like FX forwards to your product menu, you stand to not only gain loyalty from business customers with international interests, but you will also earn additional fee income, preserve your net interest margin, and gain a competitive edge in your market.How Do FX Forward Contracts Benefit Customers?FX forward contracts — contractual agreements to buy or sell currency at a fixed exchange rate for a specific date in the future — are smart for both businesses and individuals.FX forwards enable businesses to achieve greater certainty over their future cash flows, better protect their profit margins, and provide them another way to distinguish themselves from their competitors. Such contracts are most commonly used by importers and exporters doing business in other countries.They can be especially important for businesses that rely on seasonal cash flows and need protection against unfavorable exchange rate fluctuations between the time a deal is made and when the final transaction is actually conducted. Businesses that undergo long-term projects in other countries can also benefit from FX forwards to lock in predictable rates for different project phases, ensuring financial stability.Individuals can also benefit from FX forward contracts if they plan to purchase property in a foreign country, as well as afterward, if they need to continuously maintain that property. Individuals may also want to lock in a set foreign exchange rate if they plan on paying tuition at an international educational institution over a period of time, or if they want to pay ahead of time for a future vacation abroad.The Increasing Importance of FX Forward ContractsFX forwards are more relevant than ever, as currency markets have become increasingly volatile due to geopolitical uncertainty, rising inflation, interest rate differentials between countries, and government economic policy changes such as increased tariffs on foreign goods.Indeed, the global foreign exchange market size is expected to grow significantly, from $861B in 2024 to $1.535B by 2033, at a CAGR of 6.64%, according to a report by the IMARC Group, a global management consulting firm. Propelling this growth is the deregulation of financial markets and the rise of online payment platforms, and with it, the need to easily lock in foreign exchange rates amid rising risks:
- Geopolitical risks. Researchers at the Memorial University of Newfoundland and several other universities found that the Russia-Ukraine conflict has had a “cascading effect” on currency markets. Investors are fleeing to safe haven currencies like the US dollar, the Swiss franc, or the Japanese yen, while many other currencies have been devalued. This is particularly the case in markets that have been dependent on Russian oil or are closely linked to the plummeting Russian ruble.
- Inflation and interest rate differentials. Generally, the higher the inflation in a country, the more its currency depreciates, because purchasing power erodes for foreign investors. Countries tend to mitigate high inflation by raising interest rates in part to strengthen their currency, while this can also result in weaker currencies in other markets being devalued. Now that the Federal Reserve is not expected to cut interest rates significantly over the next year, as inflation in the US has eased, the interest rate differential between the US and many emerging markets could continue to narrow — causing those currencies to depreciate further.
- Governmental economic policies. Currency markets can also become more volatile if governments enact certain economic policies, such as imposing significant tariffs on foreign goods and services, which could lead to higher prices for both consumers and businesses. The US Dollar Index, which measures the greenback against six major currencies, continues to fluctuate widely since President-elect Donald Trump announced he would add more tariffs on goods coming from China, Canada, and Mexico on day one of his presidency. “Investors should get ready for a wild ride in FX volatility,” said Kamakshya Trivedi, head of global foreign exchange, interest rates, and emerging markets strategy research at Goldman Sachs. “This is going to be something that we are all going to have to get used to, because currencies are to some extent the primary means of responding to any sort of tariff announcement.”
Financial Value of FX Forwards for Community Financial InstitutionsSo, how can FX forwards benefit your institution? For one, you’re likely to increase the stickiness of your customers, who will appreciate your FX forwards offering, particularly as part of a wider suite of international payment solutions.Secondly, you will be able to generate additional fee income, allowing you to diversify income streams and rely less on traditional lending income — particularly as the Fed continues to lower interest rates, albeit at a slower pace. Hedging against future lower interest income by earning more fee income can take the bite out of net interest margin pressure you could face.You will also be able to gain a competitive advantage over other financial institutions in your market, as your robust suite of international services will likely attract small- to mid-sized businesses with international exposure that might otherwise go to larger financial institutions.FX forward contracts are a win-win: Your clients could better manage foreign exchange risks — and you could diversify your income, maintain profitability, and gain a competitive edge in a volatile global market.PCBB provides a full suite of international services, including FX forward contracts to help you support your small business customers expanding into markets outside the US.
