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Posted December 16th, 2010 by Charles Purdy

An option the banks won’t tell you about – a forward contract

It is often thought that the only way to buy currency is by paying for it in full, at the rate given by your high street bank on the day that you go in to buy it. Most buyers have no idea that they have any currency options – they simply buy the currency, let’s say euros, as and when it is required…and, on top of that, they usually wait until the last minute.
This is what the banks love you to do, as you are then ‘forced’ into buying at the rate the bank offers on the day. Others buy their currency requirements as soon as they know the amount needed, even if they don’t need to use the currency for the foreseeable future. By doing this they avoid the cost of the euros increasing – and at least with this method it does mean that they know their exact costs.
However, there is a far more effective alternative – one that the banks fail to tell you about.
That alternative is to secure your currency requirements in advance using what is known as a forward contract. And the interesting thing is that you will not be required to pay for your currency in full until such time as you need to pay the total amount over.
To give you an example, let’s say you need €100,000 in three months time and you don’t want to risk the sterling cost increasing. This can easily happen due to constant changes in the exchange rate. This is just the sort of thing you want to guard against – three months can see a truly frightening difference in currency rates.
The good news is that you can agree an exchange rate for those euros now – and all you would need is a deposit of up to 10% of the sterling purchase cost. This will ensure that your currency is secured at that day’s rate and that you don’t need to pay the full amount for the euros immediately.
It also means that you can keep 90% of your funds in a sterling account, hopefully earning interest, plus you will know EXACTLY how much money you will need when it comes to pay for the euros in three months time. By doing it this way, there are no more nasty surprises – like an extra £5-10,000 added to what you had expected to pay because of a change in the exchange rate!
It may sound complicated, but is really simplicity itself and the joy of an approach like this is that it removes all the uncertainty and the associated stress and strain. I’m sure you will agree it’s much better to know upfront exactly what your costs are going to be – it’s one less thing to worry about!
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