Hedging interest rate risk. How to create a reliable basis for planning despite rising interest rates.

For many years, Swiss companies barely had to worry about interest rate risk. Now, however, the interest rate hikes introduced by major central banks in their fight against soaring inflation mean that companies are once again having to deal with rising interest rates on their debt capital. This makes active interest rate management and targeted hedging all the more important.

Companies are having to deal with interest rate risk again

The era of low or even negative interest rates is over. Major central banks responded to soaring rates of inflation in 2022 by repeatedly raising their key interest rates. Predicting how high interest rates are still likely to rise is difficult and fraught with great uncertainty. "That is because the last time we saw inflation figures like those we have at the moment was in the 1970s and 1980s," says Olivier Frey, Director in OTC Fixed Income Derivative Sales at Credit Suisse (Switzerland) Ltd., in our 2023 FX survey.

 

That makes it all the more important for companies to address the issue. For the past ten years, Swiss companies barely had to worry about interest rate risks because of the negative interest rates maintained by the Swiss National Bank (SNB), says Olivier Frey. "This is no longer the case. Companies that are exposed to interest on their balance sheets should actively manage those interest rates."

FX Survey 2023 – exchange rate forecast

The study by Credit Suisse provides forecasts on foreign exchange rate development and offers an overview of how Swiss companies hedge their foreign exchange risks. Among other things, the comprehensive report highlights the risks associated with interest rate changes by central banks while providing in-depth insight into the hedging strategy of two internationally active Swiss companies.

13/01/2023

"Companies that are exposed to interest on their balance sheets should actively manage those interest rates."

Olivier Frey
Director in OTC Fixed Income Derivative Sales at Credit Suisse (Switzerland) Ltd.

Active interest rate management is only part of the solution

Besides active interest rate management, it is also worthwhile for companies to examine specific solutions for hedging against negative interest rate movements. An important factor here is whether they want to protect themselves for the entire duration of the liability or only for part of it. For example, if interest rates exceed their peak during the term and fall sharply again, partial hedging may pay off.

 

Generally, however, companies should not neglect interest rate risks. That is because interest payments have a direct impact on business results. "Underestimating interest rate trends can pose an enormous risk," says Olivier Frey. "This is especially true when existing debt has to be replaced with a new loan."

How companies can hedge their interest rate risk

Companies have a variety of products and strategies available to them for hedging interest rate risks. According to Olivier Frey, "The easiest and most liquid solution would be overnight index swaps (OIS)." A company regularly pays a fixed interest rate during the hedging period. In return, it receives compensation at a variable rate. That provides the company with a reliable basis for its planning.

 

More complicated products also exist – for example, interest rate caps. They allow a company to hedge against negative effects while also benefiting from positive developments in interest rates.

"Overnight index swaps (OIS) are the easiest and most liquid solution for hedging interest rate risks."

Olivier Frey
Director in OTC Fixed Income Derivative Sales at Credit Suisse (Switzerland) Ltd.

What exchange rate risks do Swiss companies expect to encounter in 2023?

Last year was marked by volatility and uncertainty, but what will internationally active companies need to look out for in the future? In the latest Credit Suisse FX survey, more than 1,000 Swiss companies share their views on exchange rate developments and provide information on how they are hedging their currency risks. In-depth analyses of current and future developments on foreign exchange markets from Credit Suisse experts also provide fascinating insights on the effective management of exchange rate risks.

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