When Should a Derivative Mature?

One of the most common foreign exchange hedging questions we receive at Hedge Trackers deals with when derivatives should mature. While the full story is rather complex, the top-line answer is relatively simple.

Essentially, derivative maturities should be tied to a cash flow event; a cash movement or a cash conversion. After all, protecting USD cash flow is ultimately why companies hedge and what stakeholders require. You should seek to time the derivative’s maturity with major inflows of cash (like a receivable due in 90 days) or major outflows of cash (like payroll cycles). While not all cash flow events are known with certainty, material cash flow dates can and should be forecasted as closely as possible.

Hedging to cash conversion dates affords hedgers a lower cost of hedging by avoiding unnecessary transaction costs and churning hedges that take up valuable time. This approach also validates that hedged transactions are both accounting and economic exposures. Think of it this way: Why would one hedge out one month 18 times for an intercompany loan due in 18 months? That results in 18 different cash settlements, significantly higher transaction costs, and serves no real benefit except to keep busy. Expert hedgers evaluate when they expect the cash back or cash outflow to occur and hedge to those estimated dates.

As stated above, there are many considerations such as credit line constraints and cash flow timing uncertainly, among others. If you think your program is trading too much and you’re leaving time and money on the table, contact us or call 408-350-8580 to speak to one of our FX hedging experts today.