A consumer client is relocating from New Zealand to Australia and expects to receive NZD 1 million from the sale of their house in three months. The current NZD to AUD exchange rate is 0.9500, which is favorable for converting their funds into AUD.

However, there is a concern that the NZD may depreciate to by the settlement date, potentially causing a loss due to an unfavorable exchange rate.

Strategy: Forward contract

To mitigate this risk, the client opts for a Forward contract with Corporate Alliance FX. By entering into this contract, the client agrees to exchange the NZD 1 million for AUD at the current exchange rate of 0.9500, locking it in for the settlement date in three months. This strategy shields the client from adverse currency fluctuations during this period

Analysis and Benefits

• Protection Against Depreciation: The Forward contract ensures that the client can exchange NZD for AUD at the favorable rate of 0.9500, even if the NZD depreciates by the settlement date.

• Financial Certainty: By locking in the exchange rate, the client secures a known amount of AUD, aiding in financial planning and budgeting for the move.

• Risk Management: The Forward contract provides peace of mind, removing the uncertainty and stress associated with potential negative currency movements.

Outcomes

As the settlement day approaches, the NZD depreciates to 0.9200 as expected.

Without Forward Contract:

If the NZD depreciates to 0.9200, the client would receive only AUD 920,000 when converting their NZD 1 million, resulting in a significant loss compared to the initial favorable rate.

• Initial Amount: NZD 1,000,000
• Conversion Rate at Settlement: 0.9200 NZD/AUD
• Actual Amount Received: NZD 1,000,000 * 0.9200 = AUD 920,000
• Loss Compared to Initial Favorable Rate: AUD 30,000 (AUD 950,000 – AUD 920,000)

With Forward Contract:

By using the Forward contract, the client locks in the exchange rate at 0.9500 and receives AUD 950,000. This ensures a gain of AUD 30,000 compared to the depreciated rate, effectively protecting the client from the adverse currency movement.

• Initial Amount: NZD 1,000,000
• Forward Contract Exchange Rate: 0.9500 NZD/AUD
• Actual Amount Received: NZD 1,000,000 * 0.9500 = AUD 950,000
• Gain Compared to Depreciated Rate: AUD 30,000 (AUD 950,000 – AUD 920,000)