THE Bank of Nova Scotia Jamaica (BNSJ) Limited has decided to expand its derivative products to include foreign exchange (FX) forward contracts which will allow its corporate and commercial customers to hedge against the volatility in FX rates.

A derivative is a financial contract between two or more parties which derives its value from the underlying asset. A FX forward contract allows the purchasing party to secure an exchange rate for a fixed amount to be paid for in the future. An example can be a construction business which purchases steel from Turkey. While the firm won’t need the steel until the end of the year, the depreciation of the Jamaican dollar against the United States dollar (USD) would result in additional costs to the firm and their overall profit from a project. Instead of just stocking up USD from the start of the year and decreasing cash resources, the firm would pay the bank for a rate of $150 – 1 for US$50,000. The USD-JMD rate closed 2021 at $155.08 which means the firm would save J$254,000 through the use of the forward contract.

“The product is being introduced at this time to meet the needs of our corporate and commercial customers who are large volume users or earners of foreign exchange and require a greater level of stability in pricing. The product allows our customers to lock in an exchange rate between two currencies at a future date to minimise currency risks. This is very useful for customers who have foreign exchange payables which they are contractually obligated to pay at a future date for the delivery of goods and services and wish to lock in prices in local currency. The product also works for FX earners who want certainty with regard to the local currency that will be available to meet local payments,” said senior vice-president of corporate and commercial banking at BNSJ Morris Nelson in an email with the Jamaica Observer.

In explaining the product, Nelson pointed out that BNSJ works with each business to establish the relevant trading lines to meet their business needs. Once in place, the customer would work with the bank’s treasury team to determine the best forward contract which has a maximum tenure of 90 days.

BNSJ is one of the largest players in the FX market, according to Bank of Jamaica (BOJ) data. The FX trading summary on March 18 showed BNSJ selling US$6.70 million while purchasing US$6.90 million. The treasury segment of BNSJ’s parent Scotia Group Jamaica Limited made $1.40 billion in external revenue and contributed $138.11 million in profit before tax in the group’s first quarter.

“Scotiabank has a large client base of customers that require FX to support their business activities, including imports of raw materials, machinery, equipment, and finished goods. The fluctuation in FX rates in recent years has created uncertainty for many businesses in the management of overseas payables. There is also a similar impact on the earners of foreign exchange. FX Forward creates certainty for users and earners of foreign exchange as it will provide a specific rate to the client regarding the value of the currency that will be required to meet their obligation at a date in the future. The FX negotiated rate refers to the forward exchange rate negotiated between Scotiabank and the customer. This rate is based on market conditions at the time the contract is being negotiated,” Nelson added.

National Commercial Bank Jamaica (NCBJ) Limited has reintroduced its FX forward product to the market in a broader manner, as noted in NCB Financial Group’s (NCBFG) 2021 annual report. As Jamaica’s largest commercial bank by assets, NCBJ is the largest player in the FX market with the bank selling US$31 million and purchasing US$26 million on September 30, 2021, the final day of its financial year.

“NCBJ commenced offering FX forwards to customers on a bespoke basis in 2002 and has since then consistently offered to predominantly corporate customers. During 2019 the Bank of Jamaica, in an effort to deepen the FX market, began to actively encourage members of the business sector and authorised dealers to explore the benefits of FX forwards. On July 24, 2019, the Bank of Jamaica hosted a Ministry of Finance and the Public Service (MOFPS) symposium on FX forwards in order to educate the public on the application of FX forwards. FX forward contract tenures typically range from three days to six months and are mainly in JMD:USD but available in multiple currency pairs. The product is offered to corporates and SMEs,” said chief financial officer of NCBFG Dennis Cohen.

NCBJ is also offering a better tool with its FX negotiated rate on its personal and business online banking platforms which will allow customers to execute FX transactions online once it falls within a predetermined acceptance range. The bank stated that this improvement should improve the speed of the transaction and reduce customer touchpoints.

NCBJ’s largest recent FX forward transaction was during TransJamaican Highway Limited’s multi-layer transaction where the product was utilised during the repurchasing of the shares from its foreign owners. This was an effective tool for the company which went public in an initial public offering during February 2020 when it garnered $25.12 billion in subscriptions relative to the $14.1 billion being sought.

The expansion of the derivatives market in Jamaica comes at a time when the BOJ is clamping down on FX transactions to combat the risk of capital flight and a mismatch in monetary policy to inflation which is running above the four to six per cent range at 10.7 per cent as of February.

“The change in directives came out of discussions had with both the BOJ and FSC. Although not perfect, we believe it is a reasonable middle ground during this uncertain period and is marked improvement to an all-out ban. Corporates that are seeking to raise funds via the debt capital markets expressed serious concerns with the move. The major concern is that a ban could very well exceed six months. For many, a capital markets solution is more appropriate than say a loan solution,” said Jamaica Securities Dealers Association President Steven Gooden of the BOJ’s amended decision on FX instruments.

“We have the ability to offer interest rate swaps to local customers through our global network. These would be applicable to customers with interest rates in hard currency tied to international benchmarks who may want to hedge a portion or all of the exposure. We will be rolling out a new suite of e-commerce products shortly,” Nelson closed.