The CFO's comprehensive guide to managing currency risk for 2017

Global Markets
The CFO’s comprehensive
guide to managing
currency risk for 2017
December 2016

Introduction:
Two political events, Brexit and the election of Donald Trump as US President, both previously
considered unexpected outcomes, have now defined 2016. Political risk became a key driver
of FX volatility and this looks set to continue in 2017.
The purpose of this document is to identify & review the key issues for CFO’s managing the
currency exposure from international trade in 2017. The focus is on key currency markets of
Euro, Sterling and US Dollars.
Authors:
What you will learn:
• The top 5 macro themes in Financial markets for
2017
• What’s driving FX opinion… the consensus &
outlier views explained
• Look ahead to the key dates, events & talking
points for 2017
• What the currency options market is telling us
now about 2017
• The 3 essential steps in building a currency risk
strategy
Ciaran Cash
Corporate & Institutional Treasury
Bank of Ireland Global Markets
Vincent Crimmins
Head of FX strategy
Bank of Ireland Global Markets

1
It is shaping up to be a very interesting 2017 with a number
of important questions looming. Is this the end of the great
30 year bond bull run? Are we seeing a rotation out of fixed
income products and back into equity investments? Will
fiscal policy take over the market driver mantle from monetary
policy? On the political front, are we seeing a shift away from
centrist, globalisation and integration friendly politics to populist,
protectionist and isolationist policies? As a consequence, will free
trade and global trade agreements be cast aside? Are we finally
going to see the end of developed markets importing deflation
from emerging markets and enter a reflationary period? There
are many long term themes which seem to be on the verge of
turning. All will have a bearing on FX volatility and direction in
2017. We have elaborated on our top 5 key themes below.
Political Risk
The votes for Brexit and Donald Trump as the 45th US
President have raised concerns around upcoming political
change, particularly in Europe where the political calendar is
heavy next year. On the 4th December, the Austrian electorate
decided against the far right candidate in their Presidential
election re-run. The Italian constitutional referendum was also
rejected leading to Prime Minister Renzis resignation. We now
add the prospect of fresh Italian elections to a heavy European
political calendar next year. The Netherlands hold national
elections in March, France has its Presidential election in
April and May and Germany will have an election by the 23rd
October. Populist parties have been gaining support across
Europe and should mainstream political parties lose control of
government, the unpredictability of unknown quantities tends to
unsettle markets. Some of the non-mainstream parties gaining
support are openly anti-EU, which has raised concern from
some quarters on the future of the EU. In the UK, the timing of
when Article 50 is triggered remains unclear, as is the approach
the UK Government will take with Europe (‘hard’ versus ‘soft’
exit). In the US, in the first quarter of next year discussions
around the US debt ceiling will re-surface, which has caused
gridlock on previous occasions.
Monetary Policy
Monetary policy is likely to continue as a key driver of markets
in 2017. The ECB is expected to extend its Quantitative Easing
(QE) program at its December meeting and likely to continue
purchasing Euro area assets for most of next year. The Bank
of England restarted its QE program this year and Japan has
also been running a QE program. QE targets long term yields
and while it was undoubtedly effective in reducing those yields,
questions are now being asked about its continued effectiveness.
By contrast, the Federal Reserve is likely to raise interest rates
in December and its QE program ended some time ago. With
developed market interest rates near zero it will be interesting to
see how monetary policy evolves over the year, particularly with
the expectation of increased activity in the fiscal policy space.
Fiscal policy
Since the beginning of the great financial crisis, monetary policy
easing has been seen as the go to medicine to cure the ills of
the global economy. However, after several years of deliberate
fiscal austerity, there is now a growing chorus of political and
financial leaders calling for a shift away from monetary policy
and towards looser fiscal policy to generate spending and
economic growth. The most notable political leader to heed
such calls is the newly elected President Trump, who has
suggested fiscal easing of some $1 trillion. Similar to its first-
mover stance in terms of monetary policy, the US now looks
like the first major economy to embark upon a policy mix of
monetary tightening and fiscal easing. Such a mix has, in the
past, been seen as supportive for the domestic currency. This
mix is what fuelled the Dollar rally of the 1980’s and could drive
further Dollar strength in 2017.
Inflation
As was the case with combatting ailing economic growth,
monetary policy was the prescription to stem global deflationary
forces. So anxious were central bankers to obtain a 2% inflation
rate that they embarked upon a period of unprecedented asset
purchases while also cutting rates into negative territory. Yet
despite these measures, inflation has remained quite subdued.
That said, several factors are beginning to align for inflationary
forces to emerge in a ‘perfect storm’ type fashion. With rising
energy and hard commodity prices coupled with significant
public spending forecast in the US, Japan, China, and to a
lesser extent Europe, the desperately sought after inflation
mandate may finally be achieved in the year ahead.
Trade
The rise of the populist ideology has gathered significant pace
post – the great financial crisis. Most notably, this year’s vote
for Brexit and the election of Donald Trump are clear indicators
that this pace is gathering strength. While there are arguably
a plethora of economic impacts from these public decisions,
none are more immediate and more obvious than the threat to
international trade. Over the course of the Clinton and Obama
eras two trade agreements have evolved – the North American
Free Trade Agreement and the Trans Pacific Partnership.
Similarly, the basic concept of the European Union was to allow
the free movement of goods and people between member
states. The recent outcomes in Britain and the US look to have
both partially and fully jeopardised such agreements. In both
cases new trade agreements may have to be drawn up, and
the most likely outcome is a return of tariffs and embargoes and
ultimately adverse effects for those economies that rely heavily
on foreign trade.
The top 5 Macro FX themes
you need to know for 2017
By Vincent Crimmins, Head of FX strategy

EUR/GBP – Current range of opinion & rationale:
Direction Range How might this happen?
(High)
Parity &
Beyond
EU: Positive election cycle in Europe leads to stronger more cohesive European Union
EU: Stronger economic growth & inflation expectations above ECB forecasts force a change to
the ECB’s current accommodative monetary policy stance
UK: Brexit impacts confidence in the UK economy, ensuing UK current account crisis results in
a further significant devaluation of the Pound
UK: Economy fails to sustain current robust post-Brexit characteristics & Bank of England
expand their QE program
(Consensus)
€/£ @ 0.88p
UK: Consensus opinion has a slight upward bias to EUR/GBP as uncertainty surrounding the
outcome to Brexit dominates market sentiment
(Low)
Sub £0.70p
EU: Further shift towards populism & political parties with anti – EU Stance
EU: Economic growth lurches lower resulting in further expansion of ECB accommodative
policy
UK: Successfully navigates Article 50 and secures beneficial trade agreements with key
partners
UK: No Brexit economic impact with Bank of England to row back additional monetary easing
brought about in August
EUR/USD – Current range of opinion & rationale:
Direction Range How might this happen?
(High)
$1.20
& Beyond
EU: Positive Euro scenarios as outlined in EUR/GBP table above
US: President Trump protectionist policies backfire on US industry with spill over effect of rising
unemployment
US: Economy performs well but a slower global economy forces the Fed to row back future
rate hike expectations
US: Unforeseen asset bubble burst – akin to that which started the Global Financial Crisis –
again the Fed and Treasury are forced to intervene
US: The new US administration are unable to agree a solution on US debt ceiling next year,
triggering a US technical default
(Consensus)
€/$ 1.05 – 1.00
EU: ECB to continue asset purchase QE program through 2017
US: Consensus view is for the Dollar to remain strong reflecting the expected upward trajectory
of US interest rates
(Low)
€/$ $0.80
EU: Negative scenarios as outlined in EUR/GBP table above
US: Economy overheats from the fiscal easing measures undertaken, the Fed are forced to
hike rates faster than they or the market expect
US: Non – US led financial or geo-political crisis sees the Dollar’s safe haven appeal
increase rapidly
What’s driving FX opinion? ...
The consensus & outlier views explained
2

Europe
Political risk now takes centre stage with a number of key European elections scheduled in 2017. Will the same sentiments
expressed by the UK and US Electorate carry through to European elections? What could this mean for the future of the
European Union?
United Kingdom
British Prime Minister Theresa May has indicated a preference to have Article 50 triggered by the end of March 2017, despite the
recent High Court defeat. An exact date has yet to be finalised, but this will likely be a key event for the UK next year.
United States
The inauguration of Donald Trump as the 45th President of the United States will take place on Friday, January 20th 2017, while
the first 100 days will be marked on 30th April.
The US debt ceiling is currently suspended until March 15th, thanks to the accord reached in October 2015. A solution will need
to be found about how to accommodate the current debt and spending levels for after this date.
A look ahead to the key dates,
events & talking points for 2017
3
Election risks could weigh on the Euro in 2017
Scheduled and potential
political events in Europe
Source: Moody’s Investor Service
SPAIN
Parliamentary
Elections (potential)
HUNGARY
Parliamentary Election:
In or before Spring 2018
FRANCE
Presidential Election:
23 April and 7 May
(2nd round) 2017
NETHERLANDS
Legislative Election:
15 March 2017
CZECH
REPUBLIC
Parliamentary Election:
In or before October 2017
GERMANY
Federal Elections:
Between 23 August and
22 October 2017

EUR/GBP - Spot probability & forward curve
EUR/USD - Spot probability & forward curve
Source: Market data Bloomberg 21/11/2016
0.740
0.940
0.765
0.965
0.790
0.990
0.815
1.040
1.015
0.840
1.065
0.865
1.090
0.890
1.115
0.915
1.140
0.940
1.165
0.965
1.215
1.190
1m
1m
3m
3m
6m
Months
EUR/GBPEUR/USD
Months
6m
9m
9m
12m
12m
15% probability Euro to trade below here
15% probability Euro to trade above here
1 Std Deviation (Low)
1 Std Deviation (High)
50% confidence
50% confidence
50% confidence
50% confidence
€/£ Fwd curve
€/$ Fwd curve
FX implied volatility is essentially the markets’ current best guess on future FX price range & movement. It is the key component in
the premium cost of currency options (the insurance market for currencies). Given its forward outlook, taking all relevant currency
information available into account, implied volatility can also provide some valuable insights for FX risk managers.
What the currency options market
is telling us now about 2017
By Ciaran Cash, Senior Dealer Corporate Treasury sales
As the outlook for currency
risk becomes less volatile,
the market will price a tighter
range of outcomes ahead.
Conversely, a more volatile
risk outlook will see this
probability range fan out
as more extreme scenarios
become more plausible.
As of 21/11/2016:
50% of the potential spot
outcomes in 2017 are
currently expected to fall
within the dashed lines
(opposite).
The range of outcomes
falling within 1 standard
deviation is illustrated
between the solid lines
across.

1 Potential range of spot outcomes:
4

EUR/GBP - 9mth Volatility smile
EUR/USD - 9mth Volatility smile
10.00
8.00
10.50
9.00
11.00
10.00
11.50
11.00
12.00
12.00
12.50
13.00
13.50
13.00
14.00
14.00
14.50
15.00
15.00
16.00
5p
5p
45c
45c
ATM
ATM
25p
25p
25c
25c
15p
15p
35c
35c
35p
35p
15c
15c
10p
10p
40c
40c
30p
30p
20c
20c
20p
20p
30c
30c
40p
40p
10c
10c
45p
45p
5c
5c
Range of EUR/GBP strike rates (expressed as delta) below & above current “at-the-money” level
Range of EUR/USD strike rates (expressed as delta) below & above current “at-the-money” level
EUR/GBP: Pre-US election the
market was charging a higher
premium to hedge sterling
receivables for conversion back
into Euro.
With increased focus now on
European political risks ahead,
the probability of Euro negative
tail risks in 2017 has increased.
The more symmetrical chart
across (today versus 8th Nov)
reflects a more balanced EUR/
GBP directional risk outlook
for 2017.
EUR/USD: € put / $ call
options protecting the buyer
against EUR/USD continuing
lower are currently in greater
demand. This skew has
become more exaggerated
post the US election.
This indicates greater market
concern on the potential for
continued Dollar strength /
Euro weakness ahead.

2 Directional market bias:
If the market perceives greater risk of the FX spot price moving in one direction over the other, it will charge a higher premium
accordingly. The charts below illustrates the implied volatility for the range of FX option strike rates both above (right hand side) and
below (left hand side) of the current “at-the-money” forward rate.
ImpliedVolatility%ImpliedVolatility%
08 Nov 16
Current
€ put / £ call options hedge Euro downside risk < >
€ put / $ call options hedge Euro downside risk < >
€ call / £ put options hedge Euro upside risk
€ call / $ put options hedge Euro upside risk
Volatility skew
Volatility skew
Implied vol is now
more symetrical post
US election. Vol curves
illustrated below
compare 8-Nov-16
V’s current
Implied vol is skewed
as the market currently
demands a higher
price to insure Euro
downside risk versus
an equivalent move
higher
5

€/£ spot 9m €/£ risk reversal
EUR/GBP – Spot & Risk reversal
0.650 -2.000
-1.000
0.000
1.000
2.000
3.000
4.000
0.675
0.700
0.725
0.750
0.775
0.800
0.850
0.825
0.875
0.900
0.925
0.950
0.975
Jan 15 Jan 16Apr 15 Apr 16Jul 15 Jul 16Oct 15 Oct 16
€/£Spot
€/£RiskReversal
The premium cost to hedge
sterling receivables for
conversion back into Euro,
remains at a slight premium
for 2017 but to a far lesser
degree than pre- Brexit.
Tail risks in both directions are
now at similar levels of implied
volatility. So while volatility
remains elevated, the bias
in terms of direction is more
balanced now.

3 Risk reversal:
The risk reversal can illustrate how the above market skew changes overtime. By subtracting the implied volatility of the put option
from similar “out-of-the money” call option, this produces a value above or below zero. When the risk reversal value is above
zero, call options are more expensive. This implies that more market participants are concerned about the underlying spot price
moving higher.
Looking back at EUR/GBP in 2016, the risk from Brexit first materialised in the options market with the risk reversal moving
higher. The spot price soon followed but it was the risk reversal that first reflected changing market opinion on the balance of
risks for Sterling. When the UK vote to leave the European Union 23rd June 2016 was confirmed, this risk materialised. EUR/GBP
immediately traded higher to reflect the new paradigm and made another move higher in October in response to “Hard Brexit”
rhetoric from the UK Government. (See chart below).
6

Direct FX exposure: Indirect FX exposure:
• Transaction exposure is the one most clearly identifiable and
arises as result of a mismatch in currency denomination of
your operating costs & revenue.
• Translation exposure describes the impact on consolidated
Company financials when foreign currency assets/liabilities
are reported back into your domestic reporting currency.
• In an open economy you are potentially exposed to
appreciation of your domestic currency. This can attract
new or increased competition in your home market
from international suppliers operating from a lower cost
base. Their weaker currency can improve their price
competitiveness to challenge your market share and/or
squeeze margins.
• Companies with unpredictable & volatile currency exposure
may have a higher cost of capital.
Pricing:
• Having thoroughly reviewed your price elasticity of demand, negotiate terms with your customers as to what
extent and how often prices can reset to currency volatility.
• By invoicing international sales in your domestic operating currency, this completely passes the FX exposure
to your customers. This approach requires careful consideration as you lose control of pricing in your end
market. How easily can you be displaced by competitors providing more convenient or favourable terms?
Operational:
• Transferring some or your entire operating cost base closer to your end market can create a natural currency hedge.
• However it can take time to establish a new international operation and perhaps this is a long term solution
for what may be transient problem (FX volatility).
• The new international operation must have sufficient volume passing through to achieve the required
economies of scale.
Strategic FX
hedging:
• With any forward hedging program, you are in effect creating a business specific FX rate as an alternative
to the wholesale FX market rate. How do you need this hedge rate to perform during spells of FX market
volatility?
• The range of hedging products & solutions available is extensive including FX forwards, currency options &
structured derivatives. The focus should always be on achieving objective in all scenarios of FX volatility.
Currency exposure can be complex and originate from a variety of sources. Effective risk management is a key strategic process
that requires careful consideration every step of the way.
This largely involves understanding your price elasticity of demand. (e.g. How sensitive is demand for your product or service to a
change in price?) This will determine the extent to which you can pass through adverse currency adjustments to customers while also
retaining your market share.
Companies exporting to the UK from a Euro operating cost base are currently managing a 27% appreciation in the Euro against
Sterling (year on year, Nov-2015 to Nov-2016. Source: Bloomberg). To what extent and how often can these businesses adjust their
Sterling retail prices to offset currency volatility? FX rates are continuously moving targets and it is notoriously difficult to identify peak
or trough turning points.
If it’s not possible to increase prices, the alternative is an internal adjustment i.e. reducing your operating costs to offset a currency
induced loss of competitiveness. This is clearly the more painful & challenging route but may be the only option.
The 3 essential steps to building
a currency risk strategy
By Ciaran Cash, Senior Dealer Corporate Treasury sales

1 Identify the exposure:

3 Decide your hedging strategy:

2 Understand the risk:
7

Volatility reduction:
A layered approach:
Looking across at EUR/GBP
probability & range of spot
prices currently estimated for
2017. At a simple level if your
objective is purely to minimise
volatility in 2017, by hedging
50% of your annual exposure
at today’s forward rate, you
immediately reduce your 2017
volatility by 50%
Using a layering strategy to
average-in your effective rate
for each business period you
can address this issue.
By continuously adding new
layers of hedging at regular
intervals over your risk horizon,
you can create an averaged
FX hedge rate to perform
more like illustration (across).
EUR/GBP – Spot probability & forward curve
EUR/GBP – Historic layered hedging performance
Two limitations of this strategy are the full year effective rate is influenced 50% by market conditions at a single point in time when
the hedging transaction is completed. This rate may or may not be reflective of the year as a whole. It also introduces a rollover
risk i.e. timing of the following year’s hedging transaction.
This approach requires a systematic process which is effective at removing the high/lows in volatility. It also allows a business time
to adjust and ascertain if market volatility is temporary or if a more structural currency adjustment is underway.
Structured products:
There are a vast range of hedging products and solutions available to create a desired hedge performance. Structured products
combine two or more currency options or financial instruments. In many cases these solutions can be tailored to limit FX volatility
within a pre-defined tolerance range of outcomes.
When reviewing these structured solutions, the focus should always be on the end product achieving your desired business
objectives in all scenarios of FX volatility.
Historic EUR/GBP Spot Layered Hedge performance
0.775
0.800
0.6
0.825
0.65
0.850
0.7
0.875
0.75
0.900
0.8
0.925
0.85
0.950
0.9
0.975
0.95
1.000
1
1m 3m 6m
Sep 06 Sep 07 Sep 08 Sep 09 Sep 10 Sep 11 Sep 12 Sep 13 Sep 14
Months
EUR/GBPEUR/GBP
9m 12m
50% confidence
50% confidence
€/£ Fwd curve
Sample approaches to FX hedging
8

DISCLAIMER
This document has been prepared by Bank of Ireland Global Markets (“BoI” or the “Bank”).
This document is for informational purposes only and BoI is not soliciting any action based upon it. Any information contained herein is believed by the Bank to be accurate
and true but the Bank expresses no representation or warranty of such accuracy and accepts no responsibility whatsoever for any loss or damage caused by any act or
omission taken as a result of the information contained in this document. No prices or rates mentioned are bids or offers by the Bank to purchase or sell any currencies,
securities or financial instruments. Except as otherwise may be specifically agreed, the Bank has not acted nor will act as a fiduciary, financial or investment adviser with
respect to any transaction that it has executed or will execute. Any investment, trading and/or hedging decision of a party will be based on its own judgment and not upon
any view expressed by the Bank.
The issuing of this document is not a commitment to enter into any transaction or to negotiate terms or conditions thereof. The decision to make a firm offer on any
transaction may be subject to, inter alia, BoI’s assessment of the final structure of, and the risks involved in, any transaction, internal credit approvals, satisfactory outcome
of due diligence and the execution by the relevant counterparty of legal documentation acceptable to BoI.
Opinions expressed herein reflect the judgment of BoI as at 07/12/2016 and may be subject to change without notice if the Bank becomes aware of any information,
whether specific to any transaction or general, which may have a material impact on any such opinions. Nothing in this document should be relied on as providing legal,
tax or economic advice or recommendations. You should obtain independent professional advice before making any investment, trading and/or hedging decision.
This document is the property of BoI. The content may not be reproduced, either in whole or in part, without the express written consent of a suitably authorised member
of BoI staff.
Bank of Ireland is regulated by the Central Bank of Ireland. In the UK, Bank of Ireland is authorised by the Central Bank of Ireland and the Prudential Regulation Authority
and subject to limited regulation by the Financial Conduct Authority and the Prudential Regulation Authority. Details about the extent of our authorisation and regulation by
the Prudential Regulation Authority and regulation by the Financial Conduct Authority are available from us on request. The Governor and Company of the Bank of Ireland
is incorporated in Ireland with limited liability. Registered Office - 40 Mespil Road, Dublin 4, Ireland. Registered Number - C-1.
If you would like to discuss any of the issues
raised further please email ciaran.cash@boi.com
Summary & key takeaways
for 2017:
• FX volatility expected to remain at elevated levels
• Political risks now centre stage in Global FX
markets.
• Focus on key European elections & potential to
undermine EU stability
• EUR/USD: downside risks dominate current
market sentiment
• EUR/GBP: Heightened volatility from significant
political uncertainty
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