U.S. Dollar hits rock bottom… I hope

Have you ever considered buying options? I.e. a contract that will allow you to buy or sell US dollars at some specified point in the future and for a price agreed upon now. Think of it as insurance. I'd be quite interested if any banks sell options to "mere mortals" or whether you have to have a multi-million dollar turnover to make it worthwhile for them.

It is possible to buy options, I believe (in fact, I'm pretty sure that our bank will sell them to us if we ask, or we could hold funds in U.S. dollars and try to convert them only when the exchange rate is good).

The problem I have with this is really that my business is about selling software, not speculating on the currency market; a lot of the people who routinely buy and sell currency options, or try to hold funds in different currencies to reduce their exposure to fluctuations, have the time and expertise to trade effectively and I don't think we do.

Also, doing things like this can cause real headaches with the accounts (which are complicated enough already :-)) For instance, you'd have to track all the different buy and sell rates and account for losses and gains due to currency fluctuations.

But… if anyone knows of an easy way to do all this, I'm interested.

Why exposure yourself to the currency mismatch in the first place? Just price in pound and setup your checkout system to adjust the USD amount accordingly for us Americans. Enough people do it already and I do not believe (this, of course, is just my opinion based on shopping on a few such sites) fellow Yankees would fret too much -- it's entirely understandable.

When the company first started, that's exactly what we were doing. The price was in Sterling. The trouble is that we kept getting complaints from Americans who didn't bother reading the currency symbol (even with GBP written before it). They just assumed it was dollars, bought the product, then complained that we'd overcharged them or hadn't advertised the price correctly.

Also, in some parts of the world, the fees people pay to exchange currency are quite high, even with credit cards. The Canadians, for instance, I'm told get a raw deal on U.S. dollars (should that have a capital D? I'm never certain.).

Then there's the fact that a lot of our competitors charge in U.S. dollars (because they're in the U.S.). The exchange rate would make our products look progressively more expensive as it gets higher, which isn't good for us.

Finally, people like to pay a predictable price for goods, and, if you have to refund their money, they'd like to receive the same amount back (not some different amount because of the exchange rates).

Basically, we're exposed to the exchange rate whether or not we charge people in U.S. dollars. The only difference is that because we do charge some people in U.S. dollars, we at least have separate control over the price, which we wouldn't have if we just charged in Sterling.

We're all biting the bullet. As a Canadian graphic designer, I had to increase my rates two years ago for American customers (most of my business) by 30% just to keep earnings level. Now I need to raise them again.

It's likely to get worse. The Fed is inflating and China is sitting on a trillion US dollars they can unload on the market at any time.

The BBC just posted this article on the subject:

http://news.bbc.co.uk/1/hi/business/6197920.stm

Here in the U.K. we’re seeing something of a “double-whammy”, I think, because our interest rate is on the increase, which makes Sterling an attractive investment for banks and other currency speculators (which pushes the value of Sterling up at the same time that the U.S. dollar is falling).

Alistair,

As others have mentioned, it seems to me the best approach here would be to hedge your exposure in the currency markets. It is quite easy these days to set up a currency trading account with someone like FXCM. Then you just need to estimate your dollar sales over, say, the next quarter and 'sell' that amount against the pound in the account. You get tremendous leverage on currency accounts - usually 200:1 which means you only need to put up half a percent of the actual cost of the trade.

You said above that "my business is about selling software, not speculating on the currency market". The point here is that this is not speculation, it is hedging. It would be speculation if your intention was to generate profits this way, but in fact what you are doing is trying to stabilize your income in the face of currency fluctuations. The important thing to remember is that your business is about selling software, but it is also about business and this is a very effective business technique. It really doesn't require any kind of knowledge of currency markets, just an ability to estimate your quarterly revenue.

Doug

From what you say, it does sound like it’s worth considering. What I think you’re saying here is that we’d buy Sterling using dollars at the current exchange rate, and then (effectively) pay back a dollar debt incurred by the Sterling purchase using the sales from the quarter?

I think we’re more likely to be worried about longer-term movements in the exchange rate rather than short-term fluctuations, but I suppose there’s nothing preventing hedging over a longer period if we want.

As I say, I’m not familiar with the terminology or the practice of hedging or speculating; if you’ve got a URL that has a good explanation, it might be interesting to others as well as to me. (Otherwise I’ll probably use Google to find something tomorrow and maybe write something about it then.)

That's essentially right. Today you buy as much sterling as you think you would receive in income over the next, say, three months at today's exchange rate. At the end of the period you sell that sterling and the profit (or loss, if the dollar rises) you make on the hedging transaction offsets the difference in actual income from expected income. How well this works depends on how well you can estimate your income.

(The way a currency trading account works, however, means that technically you will be 'going short' on dollars, since you don't actually have any dollars to buy sterling with. The technicality doesn't matter, it's just a minus sign in the maths.)

Speculation is when you buy or sell with the intent of making a profit, but with the risk that you make a loss. Hedging is simply offsetting one asset against another in the expectation that their values will rise or fall by opposite amounts in order to keep the overall total value as constant as possible. In this case the assets are the expected value of your sales over a period and the open trade in the market. (BTW, don't confuse this with 'hedge funds' which are actually speculative investments.) This is a standard business procedure when you rely on revenue from a resource that fluctuates in value. It's the same principle as energy companies buying oil futures in order to be able to fix the costs over a period.

You can hedge over any period you like, really, but there are two factors to consider:

1) The benefit of this relies on you ability to forecast your dollar sales, which is going to be harder the longer timeframe you choose. Ideally, you would be adjusting your trading position regularly to track the outstanding estimated revenue for the period, not just wait until the end of the period to close.

2) If the dollard falls you need to close the trade in the market in order to be able to release the trading profits to add to your company's cashflow. If the dollar rises then you need to close the trade in order to pay off the trading loss (using the extra cash from sales over and above what was expected based on the starting exchange rate.)

I'd be very happy to discuss this further in email to thrash out the details. There are a number of small points to consider when setting this up, but once you have it going it shouldn't take any more effort than, say, doing your vat return.