Any questions: Currency

Tuesday, May 31, 2011

Any questions: Currency

I'm searching for a property in Italy, to purchase sometime later this year. I've seen that the exchange rate has been as high as €1.20 and as low as €1.10. I know about forward contracts, but worried if I fix the rate now it might then go back up! Are there any other options or is it a case of just leaving it to chance?

I can understand your quandary. Naturally, you want to achieve the best possible rate of exchange but equally don't want to gamble on rates increasing only for the reverse to happen, and your budget to purchase being eroded by exchange rate fluctuations.

The problem is that the currency markets are impossible to predict and so, unfortunately, there is no way to guarantee you'll achieve the best exchange rate within your timescale. There are however several strategies you can employ to reduce your exposure as much as possible, and give yourself some control over your purchase. Simply leaving it to chance could be risky and is more than a gamble.

A forward contract allows you to fix today's rate so you know the cost of your currency, however should rates then go up, you're stuck with the price you fixed. Conversely, holding for a higher rate could pay off but if Sterling continues to weaken, your costs could increase significantly. Both of these options carry certain risks, the former having the advantage of a finite cost, regardless what should happen in the market.

A balanced strategy you could employ in your situation would be to forward buy 50 per cent of the euros you need now, and wait and see what happens with rates before securing the remainder. This way, should rates drop further, at least you secured half of your euros at a better rate. Likewise, should rates increase, you can secure your remaining currency at a better rate. This way, regardless which way rates move you have some level of protection and still have the chance to gain should GBP/EUR rates recover.


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