We all know that the foreign exchange market can be very volatile. As exporters and importers, you face the risk of severe fluctuations in foreign exchange rates, every day.
So, how do you mitigate that risk? Secure a forward contract. Forward contracts are designed to help protect companies from adverse market movements by allowing them to “lock-in” an exchange rate, in advance of a future transaction.
The contracts are not standardized and can therefore be established for any amount of money. Forward contracts are an obligation to buy or sell currency at a specified exchange rate, at a specified time and in a specified amount.
Two types of foreign exchange contracts exist: “Open” forward contracts and “closed” forward contracts. Open forward contracts set a window of time within which all or any portion of a contract can be settled; whereas, the entire amount of a closed contract must be settled on an exact date.
Ultimately, forward contracts should be used as part of an overall hedging strategy to best protect your company’s exposure abroad.