Banks, payment institutions and online money-changers. Which of the entities offers the most benefits for currency risk management?
15 years ago, only banks could exchange currencies in non-cash transactions. Hardly anyone back then heard of a currency risk transaction such as forward. 10 years ago the first online money-changer was established and 5 years ago payment institutions (Polish and foreign) appeared, offering currency conversions and forward transactions.
In the case of a bank, we convert funds with today’s rate for a future point in time (make a forward transaction), set up a transfer and still hold the funds. In a payment institution we convert currency and transfer funds. In an online money-changer we convert a currency. The biggest entities compete on security, the smallest ones on price. Let’s see what options we have and where we can manage the currency risk.
Example of an entrepreneur
In our comparison let us take on the role of an entrepreneur with an annual turnover of PLN 9 million, who imports raw material from abroad – annually buys US dollars for about 3 million Polish zloty and pays foreign invoices to a supplier in Kenya. The company is educated, manages the currency risk, makes forward transactions – it hedges about ¾ of its currency needs.
How does the process of forward purchase and transfer of funds look like in different institutions?
|Bank – e.g. mBank, Raiffeisen||Payment institution – e.g. Ebury, OSTCFX||Online money-changer|
It is not possible to conclude a forward transaction in an ordinary online money-changer, because it is an instrument to be initiated only by a license holder, e.g. a bank license. Additionally, each entity that enters into forward transactions to manage foreign exchange risk reports such transactions to the KDPW – National Depository for Securities (or the bank does it for the client). In the case of online money-changer, some offer various “synthetic” instruments, which are a standard commercial contracts and in the case of bankruptcy by an Internet exchange office without a proper license, the money will not be recovered.
Bank-owned online money-changers
The situation is slightly different in the bank-owned online money-changer, as it is part of a bank. Such online money-changer are owned by mBank or Raiffeisen, for example. However, they only offer a conversion for their SME clients, without the possibility of concluding a forward transaction, so in our example – they are not useful.
Coming back to our example
The fastest way to hedge against currency risk is by forward transactions in a bank. It will take the longest time to do it online money-changer. Someone will say – it is true that it is safer to do it through a bank, but I have a better price in a currency exchange office. Yes, but an unregulated online money-changer can declare bankruptcy like any other limited company. Bank – there we have a guarantee on at least part of funds and also there is a full control and audit.
Well, the price is one of the arguments, but now let’s check the security. Below in the table we will find basic information on this subject:
|Entity||Banks||Payment Institution||Online Money-changer|
|Supervision||KNF (Polish Financial Supervision Authority)
NBP (Polish Central Bank)
|Possibility of forward transactions||Yes||Yes (depending on the type of licence and passport e.g. British institution, Polish institution, Czech institution, etc.)||No|
|The other side of the transaction (i.e. I buy, who sells?)||Bank in which I opened the transaction||Other bank||Other bank
own speculative position
|Necessary operations for currency conversion||Conversion||Transfers to institutions
|Transfer to online money-changer
Transfer from online money-changer
As you can see, price is one thing, but security and supervision of a financial institution are quite another and also a lot more important. Banks and payment institutions are supervised, audited and hold minimum required capital that they must hold (this cannot be said of online money-changers).
What to pay attention to and rather not trust?
If the online money-changer does not have any license, it is likely that “security” will be based on encryption of the connection – all entities have it, because otherwise the Internet browser will show a window with message that the website is unsafe.
The second argument for “security” is having a certificate “Rzetelna Firma” (Reliable Company) – it can be bought…
The third argument is the information that the exchange office works according to the GIODO or RODO (GDPR) (depending on whether it updated the section on the page. “Security” after 2018).
If the online money-changer has only such arguments to back up its security claims, it means that it is nothing more than an average company with average problems, including possible liquidity and payment backlogs.
OK. There are three types of companies in our comparison: banks, payment institutions and online money-changers. Due to the fact that it is impossible to make a forward transaction in online money-changer legally, we move forward with two types only: banks and payment institions.
Payment institutions and fintech – transfer in an exotic currency of a counterparty
It is worth taking note of foreign payment institutions with branches in Poland. Some of them, such as Ebury, offer foreign currencies and so our entrepreneur, for example, does not have to send US dollars to Kenya, but may convert the zloty directly into Kenyan shillings. The advantage is that the counterparty does not have to convert dollars into local currency, but immediately receives the local currency. Such a solution is often the basis for renegotiating the price and obtaining better trading conditions with the supplier.
Summary – what entity type provides the most benefits in currency risk management?
By default – banks, because they have standardised processes, they are transparent and secure. On the other hand, their limitations are the number of currencies or expensive transfer charges.
Therefore, it is worth taking note of payment institutions which, first of all offer more currencies (and it is better to pay the counterparty in the local currency, because you can negotiate larger discount), lower collateral for forward transactions, and secondly, transfers are often “included” in forward contract. Therefore, it is worth to pay attention to e.g. the aforementioned e.g. Ebury.
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