FSG’s Events to Watch: Extreme Currency Volatility in 2015

CurrencyDepreciation

The recent free fall of Russia’s currency is not an anomaly. My colleague Martina Bozadzhieva wrote earlier this week on the dynamics involved in the ruble’s massive depreciation, but Russia is not alone. As you can see in the chart above, many emerging markets’ exchange rates are experiencing massive devaluations versus the US dollar, and FSG expects this trend to continue. In both our 2014 and 2015 Events to Watch reports, we highlight “Extreme Currency Volatility” as one of the big events FSG executives need to prepare for.  Here’s why.

“The Perfect Storm”

The perfect storm of currency volatility catalysts could potentially all occur at once as the ECB, U.S. Federal Reserve, BOJ, and PBOC react to one another’s monetary policy decisions. Emerging market currencies would become increasingly unstable as economic and monetary policy announcements inject a simultaneous wave of currency volatility into the global financial system. Additionally, interest rate increases in the United States will prompt flight of portfolio capital from shallow emerging market investment pools, leading to even more dramatic swings in currency valuation. As the risk-return payoff for investors begins to change, yield-seeking capital is likely to flow back out of riskier emerging market assets, further exacerbating this issue.

What does this mean?

  • Lower hard-currency earnings from emerging markets – In Q1 of 2014, exchange rate volatility cost on average .34% of revenue for North American companies and .92% of revenue for European companies; rapid devaluation can cause country managers to miss targets by a wide margin
  • Slower growth in emerging markets – For emerging markets, volatile currencies can result in massive downward revisions; Argentina’s 2014 GDP growth forecast tumbled to -2.6% in August 2014 from 2.0% in January 2014 as the currency depreciated 28% in eight months.

How can executives prepare?

Even with the grim news, executives can take steps to mitigate the effects of F/X volatility. For example, local leaders and finance teams have started measuring country teams based on volume, local currency revenues, or market share. Additionally, leading multinationals are providing pricing flexibility to local teams so they can rapidly adapt if devaluation makes imported products less competitive.

Although the macroeconomy is doing its best to provide a challenging backdrop for business operations in 2015, FSG is here to help companies and executives insulate their performance by preparing the right way.

Check back next week for more information on our Top Ten 2015 Events to Watch.


*On January 5, 2015 a public version of the 2015 Events to Watch report will be available for download on FrontierStrategyGroup.com.

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