What products does MFX offer?
MFX offers hedging services to the microfinance industry, for both MIVs and MFIs. We offer:
Currency Forward Contracts: In the Foreign Exchange market, a forward is a contract that locks in the price at which an entity can buy or sell a currency on a future date. A forward can be used to hedge the exposure to foreign exchange in a microfinance loan when the client only wants to protect principal repayments.
Cross Currency Swaps: In a cross currency swap, the parties exchange a stream of payments in one currency for a stream of cash flows in another. The typical cross currency swap involves the exchange of both recurring interest and principal (usually at the end of the swap) and thus can fully cover the risk of a microfinance loan transaction. Conceptually, cross currency swaps can be viewed as a series of forward contracts packaged together.
FX Options: The owner of an option has the right, but not the obligation to buy (sell) a currency at a specified price, subject to expiration date. MFX offers option products in select currencies. These products can be useful in hedging transactions where cash flows are uncertain and where the lender wants to limit but not eliminate exposure in exchange for a lower hedging cost. Fx Options are only available in certain liquid markets.
Where does MFX hedge?
MFX can provide fixed and floating rate products across most emerging and developing market currencies. Please refer to the “Available Currencies” section for a complete list.
What are the requirements for hedging with MFX?
Credit Evaluation: All MFX clients must undergo a credit evaluation. For MIV counterparties, MFX relies on a rating methodology developed by MicroRate specifically to address the financial and business characteristics unique to MIVs. For MFI counterparties, MFX works with Microrate and Microfinanza to develop a credit score. If the MFI has a rating from one of these rating services, then that can be used by MFX. If the MFI has a rating from another major rating service, it usually can be converted at a modest cost. Alternatively, if an MFI has not been rated previously, either Microrate or Microfinanza would need to complete a rating. The rating provided to MFX is confidential and is not available for circulation by either MFX, or our counterparties.
ISDA Process: Before a client can engage in a hedging transaction with MFX (or anyone else), both parties must enter into an agreement which defines the relationship and commits both parties to derivative transactions undertaken between them. The agreement also contains the procedures and rules regarding payment terms and settlements. The agreement governing foreign exchange or currency swaps is known as the “ISDA”, which is a standardized contract named for the organization that established global financial derivatives standards more than 20 years ago – the International Swap Dealers Association. The most recent version is the 2002 ISDA. The agreement comes in three parts: the ISDA Master Agreement, the ISDA schedule, and the Credit Support Annex (CSA).
The ISDA Master Agreement contains standardized terms that hold for all derivative contracts and thus does not need to be negotiated. MFX can help to familiarize you with these standard terms.
The ISDA schedule sets the terms and information that are unique to the contract such as specific conditions for unwinding trades, particular covenants, notification, information disclosure, etc. MFX can provide standard terms in most areas to help simplify the process for agreeing to an ISDA schedule.
The CSA primarily covers collateral arrangements. MFX does not require collateral from MIV clients that meet its credit standards but requires a limited amount of upfront collateral from MFI clients. Initial collateral will generally be in the range of 2- 5% of the notional value of the hedge, with additional amounts to be posted in the mark-to-market exceeds that amount. Collateral will be held in a trust account with Citibank, and all interest earned on this account will go to the client.
How does MFX manage the currency risk it assumes from its clients?
MFX offsets the risk it takes from clients and in that sense serves as an intermediary between its MFI and MIV clients and its trading partners. MFX has two types of trading partners: 1) commercial banks which can hedge in more liquid emerging markets and 2) The Currency Exchange Fund (TCX) which specializes in hedging in exotic currencies.
TCX acts a s a wholesaler of exotic currency hedging and MFX’s role is to serve as an access point for the microfinance industry to the TCX facility in order to access exotic currency hedging.
MFX also acts as a credit intermediary for MIVs and MFIs who cannot receive good terms from banks. Bringing to bear its AAA credit guarantee, and larger transaction volume, MFX can get often get substantially better terms for hedges in liquid currency than many of its microfinance clients.
For every hedging contract that MFX enters into with a client, it does the exact opposite transaction with the trading counterparty – maintaining a risk-free, matched book. MFX earns revenue through a 50bp (.5%) commission off the notional of each trade it does with a client.
How is pricing of products determined?
MFX bases its swap, forward, or option price on the price MFX receives from TCX or a bank. We will always try to get the best price from our available counterparties and we will inform you of that underlying price, including documentation if requested. MFX adds its 50 bps commission to the dollar or euro leg of the swap price we receive from TCX or a bank and includes it in the quote we provide. MFX uses the same pricing methodology for forwards and swaps.
How do I get pricing from MFX?
If you have a particular transaction that you would like to request hedge pricing for, please contact a member of our Trading Team and they will provide you with rough quotes as an initial starting point. This is generally to give the client a basic idea on whether or not hedge pricing in this market is feasible for a particular transaction that is under consideration. For rough quotes, MFX can in many cases respond immediately and otherwise within 1-2 days unless otherwise specified.
For exotic currencies, if the deal looks likely to happen, MFX will submit to TCX a request for a binding quote, which should be submitted at least 5 days prior to disbursement. The term “binding” does not imply that the price is fixed for the transaction, but that TCX/MFX have bound themselves to transact on this deal. Pricing continues to be subject to market volatility until the trade date. Therefore, we ask that our clients remain flexible to absorb price movements that occur between the initial quote and execution.