The World After Brexit Over the last few days, we’ve already spoken with numerous clients about the potential financial and regulatory impacts of the UK’s vote to leave the European Union. As the referendum’s outcome reverberates through the markets, here are a few key notes: 1) What happened in financial markets? The British pound plummeted 12% overnight from Thursday, nearly doubling its worst ever one-day percentage loss that occurred in 1992 when it came under speculative attack and fell out of the ERM – it has continued to fall sharply today. The euro also weakened substantially, while the Japanese yen strengthened considerably as the safe-haven currency of choice (the Swiss franc’s pressure to appreciate was mitigated by Swiss Central Bank activity). Bonds from the US to the UK to Germany rose sharply, anticipating expansionary monetary policy to ward off recession.…

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Hedging Lessons from Brexit On Thursday, British citizens will vote in a referendum posing this question – “Should the United Kingdom remain a member of the European Union or leave the European Union?” The result will have sweeping implications for trade policy, the flow of immigrants, and even the continued viability of the European Union. Hence, as the referendum’s projected outcome has shifted from Remain to Leave and back again, worldwide currency, interest rate, and equity markets have swung wildly. As a global company with operations in the UK and Europe, we’ve been monitoring the referendum buildup closely. In addition to its anticipated economic and political impacts, there are also numerous valuable risk management lessons, including (1) The best time to buy insurance: The cost of seasonal hurricane insurance on an Outer Banks home skyrockets once there’s already a Category…

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Market Insights June 20, 2016 Download This Week’s Market Insights Prior Week Summary The curve continued to flatten for much of last week, as traders marked time in anticipation of the “Brexit” vote. The world’s central bankers have weighed in and currency volatility has increased to multi-year highs as each new poll on the referendum is digested by the market. It is reasonable to expect a heightened level of potential volatility in all markets this week, especially if a “leave” vote increases in probability. Like all events with this level of market significance, the details will define the magnitude of the market reaction in the intermediate term, while market positioning and trading flows will drive markets over the short-term. As the possibility of a “leave” vote gained momentum last week, the yield of the 10-yr German Bund fell below zero,…

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Every time we run to the grocery store or pharmacy for household staples like baking soda or ibuprofen, we’re faced with a choice – to buy the name brand or the store brand. On the one hand, there’s something reassuring about purchasing a nationally-recognized brand; after all, if they can afford to advertise during the Super Bowl, surely they must have a quality product! On the other hand, why should we pay three times the amount for cough syrup when the store brand has the exact same list of ingredients? In truth, we often use brand recognition as a proxy for quality, whether or not that conclusion is valid. If we consumers had perfect information, we would only buy name brands if the cost premium were clearly justified by higher quality or value. This implies that subject-matter experts, such as…

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Private Equity Case Study: Currency Challenges Our Client: A large private equity firm executing an acquisition in a developed economy. Situation: A private equity consortium had agreed to acquire a North American company. Due to the state of debt capital markets, a substantial portion of the debt capital structure was denominated in USD with floating rates. Summary: The consortium and company needed to determine the best way to address the currency mismatch between cash flow and interest expense, as well as the optimal way to create a higher percentage of fixed rate debt. Chatham Financial educated the team on the use of cross-currency swaps, created transparency in the execution process of the hedging transactions, and assisted in the negotiation of the key documentation for the derivatives to ensure no hedge counterparty stood ahead of other secured lenders to the business.…

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Corporate Case Study: Interest Expense & Currency Risk Our Client: A software firm with contracts in multiple currencies, a complicated legal structure and unique debt structures. Situation: The company had recently increased leverage from a negligible amount to roughly 50% of its enterprise value in a recapitalization, compounding the currency risk. The company was trying to determine the best way to hedge its exposure to a CAD loan with interest payments based on a USD LIBOR index, as well as how to manage its currency risk across multiple currencies. Summary: Chatham Financial assisted the company in developing a hedging strategy for its debt by explaining the various hedging structures that could be used to create the appropriate hedge of the firm’s interest rate risk. To help the management team obtain an understanding of its currency risk, we worked to isolate…

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Chatham works with financial sponsors at many of the largest firms globally. Our spectrum of deals over the years gives us a rare perspective on how to add value to maximize their investment goals. Chatham’s holistic strategies reflect a deep currency, rate and hedge accounting expertise and allow us to devise optimal economic and accounting hedging options, pricing transparency and efficient market execution. We also relieve the administrative burdens associated with hedging, hedge accounting or regulatory compliance. With offices around the world, we can support our clients 24/7 and give clients the benefit of our global perspective on world markets. Our success-based fee structure is tied to deal execution, eliminating dead deal or additional out of pocket costs. Even after a deal is concluded, we often partner with the portfolio company team to offset any ongoing hedging or regulatory burdens,…

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Managing the foreign currency rate changes that can impact returns Investors who purchase foreign assets run the risk that movement in local currency rates can reduce the underlying value of their expected/projected return. Many investors seeking to reduce such risks are wary of making large upfront cash outlays as well as potential breakage costs. Chatham Financial can help balance these concerns so that the risk is minimized most efficiently. Benefits of Chatham Foreign Currency Hedging Services Holistic approach: Chatham works with private equity investors to define the right strategy and instruments to support it. Our risk analyses help determine what percent of the investment to hedge, as well as the tenor, timing, and instruments needed to offset currency risks. From strategy and execution to reporting, Chatham analyzes and assesses risk exposure as well as structures and reviews policy to identify…

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Mitigating risk and avoiding dead deal costs When a private equity investor agrees to purchase a company in a foreign currency rather than the currency in which the debt or equity is funded (e.g. investing equity from a US Dollar denominated fund in a JPY asset or raising debt in USD for a CAD investment), the fund runs the risk that, prior to closing, foreign exchange (FX) rate movements will require additional funding. Many investors prefer to lock in the specific equity check required at the time of signing to avoid any surprises at closing. Deal contingent FX hedging allows investors to lock in a specific FX rate. It also allows them to walk away with no strings if the underlying deal does not close. Similarly, the high amount of leverage in these deals also prompts investors to take advantage…

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Analyzing risk and designing programs for private equity firms As an investor in companies that involve foreign entities, currency risk becomes an inevitable factor. Private equity investors need to consider these risks in the context of currencies involved. This includes market liquidity and optimal structure of the debt as well as debt of the underlying operation. Analyzing these factors to determine the most favorable scenarios is key to the entire investment process. Chatham Financial Risk Analysis and Program Design Services Scenario analysis and strategy: Chatham partners with private equity investors to develop scenarios and alternative models to determine the ideal risk management strategy. We consider whether the debt can be offset synthetically and, if so, we develop an optimal investment structure. Designing the optimal program: Chatham is in the markets every day. This gives us a very practical and informed…

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