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Different hedging preferences and techniques are available for exploitation to Nodal Logistics as it seeks to acquire real estate in Brazil. However, these are not the same approaches employed by Shell and other oil and gas companies (in fact, these corporations limit their intensity or enthusiasm especial in oil commodity prices). Since Brazil has had a very weak currency before the inception of the Brazilian real, and the recent legislation mandates that Nodal operates internally using the real, implementing an effective hedging strategy is a critical necessity for Nodal Logistics. In this paper, there is a discussion of the hedging options that Nodal Logistics needs in this acquisition and a comparison to the strategies employed by Shell is made.
Hedging Strategies Available to Nodal Logistics
To begin with, based on the current macroeconomic analysis of Brazil, its currency has been gaining strength against the dollar. Thus, just like going short in Forex, Nodal Logistics can choose to acquire real estate by selling the US dollars and buying the reals to invest locally. This strategy is termed as the currency risk. At the time of the acquisition, Brazil was classified as a profound emerging market. Emerging markets were popular for outsourcing labor, especially by developed economies. This implies more local investments, a robust economy for Brazil, and thus, a great market for Nodal’s lease services (Moffett, 2008).
Next, these strategies also include the options and forward contract hedging methods. In the former, the company stands a chance of insulating its real currency profits against bull forces in dollar versus real exchange rates. The latter, on the other hand, seeks to naturally hedge the risk Nodal is going to take once it has invested in Brazil. Another similar but different strategy is that of currency clauses like the CAC (Currency Adjustment Clause). In this approach, both Nodal and its clients should unanimously agree to share a certain degree of the risk. In any market, it is highly unlikely that customers of an international company will blindly agree to share risks with the firm as it invests in emerging markets (Moffett, 2008).
Finally, there is the significant and, perhaps recommendable, strategy of financing the acquisition locally through borrowing. However, in this case, this approach is not the best for Nodal due to the unpredictable and highly leveraged loan situation. If the company chooses this approach, it risks exposing itself to bad debts and other possible factors that can derail its operations in Brazil, since it will take approximately 2 years to develop and lease 60% of the company’s total real estate (Moffett, 2008).
Recommended Strategy and Comparison to Shell
The most recommendable strategy is that of using forward contracts. The first support for this is that, despite the historical injustices done to the Brazilian currency, after pegging it to the dollar and finally its appreciating after a substantial depreciation, this emerging economy had finally adapted to the insulations that inhibit unpredictable speculation in the currency market. In real market scenarios, forward and spot quotes have always been missed. Forward contracts with a hedging characteristic can effectively insulate Nodal’s acquisition to exchange rate volatility as risk will mostly rely on the currency rate if Nodal implements the acquisition.
Shell, in the oil industry, also chooses forward contracts to reduce risks in interest rates, foreign currency risks and commodity risks as it borrows internationally and domestically. This is the case for most of the companies in the oil and gas industry. However, it is paramount to note that oil corporations, such as Shell, engage in very little hedging activities for the sole purpose of locking on profits once oil prices are bullish (Carlson, 2006). This approach is preferable even in high investments projects comparable to Nodal because the oil commodity has its perceived unique qualities.
In the foregoing discussions, there are five basic hedging strategies that Nodal can use as it enters the Brazilian market. The best approach, which is pursuant to Nodal’s current financial and policy situation, is that of forward contracts. Forward contracts are favorable because of their predictable nature when spot and forward prices are quoted. However, this strategy is used mostly by oil companies such as Shell.
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