Help Available for Firms Stung by Exchange

December 7, 2007

Fancy new tools are appearing on Costa Rica’s financial markets to help the country’s business community – importers and exporters in particular – deal with the new risk in the colón’s floating exchange rate.

“It’s a risk you have to manage, and Ticos aren’t used to it,” Mario Gómez, CFO of Costa Rica-based construction materials company Durman Esquivel, told a packed room of exporters last week.

One of the new tools launched by the National Stock Exchange allows an importer and exporter to cancel out each other’s risk through a contract.

Others, including derivatives of various kinds, have yet to receive the formal regulatory go-ahead.

“The important thing is that (the tools) can cover not only huge companies because of their scale, but also small companies,” said Monica Araya, the Chamber of Exporters president and a long-time advocate of such tools.

Historically, Costa Rican businesses have little experience with a floating exchange rate. For 22 years, the country’s currency remained pegged to the U.S. dollar, devaluing at a steady, regulated amount every year.

Thirteen months ago, however, the Central Bank changed to a system that allowed the colón to float in a limited range, and though it hasn’t floated much, an adjustment by the bank on Nov. 22 left exporters with a sinking feeling as they watched the value of the dollar drop by 4% overnight against the colón.

Suddenly, their products – sold for dollars – were worth less after being converted to colones at home to pay workers and buy materials.

Both exporters and importers are realizing that by doing business in two currencies, they are speculating on the currency market.

“It’s very important that all the exporters realize that there’s a way to cover ourselves so we can concentrate on our businesses,” said Gabriel Moreno, an exporter of exotic plants and a member of the board of directors of the Chamber of Exporters.

One of those methods is something called a “contract for differences” that allows businesses or individuals to “sell” their risk to a third party.

It’s basically like a bet: The person who buys the risk would get the profit if the exchange rate changes favorably – but also take the loss if the exchange rate goes south. Meanwhile, the person who sold the contract breaks even regardless.

“With a good contract, a well designed contract,what this does is eliminate the risk,” said Matthew Sullivan, director of markets and strategy for the National Stock Exchange.

Sullivan said these contracts are expected to be made mostly between exporters and importers, who carry equal but opposite risks.

Exporters lose money when the value of the dollar goes down, while importers gain – and vice versa.

A contract for differences made between an importer and an exporter allows them to cancel out each other’s risk. Instead of one going up and the other going down, they agree to pay each other the difference in the event of a shift in the exchange rate.

No one wins, but no one loses either.

The stock exchange began offering contracts for differences last week, in $10,000 chunks that can be traded through stockbroker BCT Valores.

BCT has said it will essentially act as a matchmaker, connecting up exporters and importers looking to eliminate their risk.

“We get a small commission,” Sullivan said, addressing the stock exchange’s motivation.

“But more importantly we help the market meet its needs.”

Five other simple derivatives are being offered through the stock exchange as well.

Other more complicated financial tools to be made available on the local market include derivatives, but those tools are still pending regulatory adjustments.

 

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