Forwards vs spot: hedging AUD supplier payments

The problem in plain terms

If your business imports goods or services and pays foreign suppliers, you carry currency risk whether you acknowledge it or not. Even when an invoice arrives in Australian dollars, the supplier has already priced their FX assumption into the rate they quote you. The volatility in AUD/USD or AUD/EUR or whichever pair you actually trade lands somewhere: in your margin, in theirs, or in awkward conversations about price every few months.

The two main tools for managing this are spot trades and forward contracts. Most Australian SMEs default to spot. They wait until the invoice is due, glance at the screen rate, and convert. It feels intuitive and requires nothing in advance. For any business with predictable foreign-currency obligations more than a few weeks out, it's also usually the wrong call.

What follows is how forwards actually work, when they beat spot, when spot is genuinely fine, and the mistakes Australian importers make most often when they finally get serious about hedging.

Spot trades: the baseline

A spot trade is an exchange at today's market rate, settling two business days later (T+2). That's the standard for AUD/USD, AUD/EUR, and most major pairs. AUD/CAD settles T+1. A few exotics take longer.

Spot is the right call when:

• The payment is due in a few days and you've already got the AUD ready.
• The exposure is small enough that hedging costs more than the variance it removes.
• You genuinely can't forecast what's coming and have nothing concrete to lock in.

Cost-wise, a spot trade is the bid-ask spread plus whatever fee or margin your provider builds in. Through a non-bank specialist on SME-sized tickets, all-in cost is usually 15-40 basis points off mid, narrower for serious volume. The big four banks tend to charge 100-200 bps off-mid on retail-sized SME flow. Sometimes more.

Spot's flaw is the obvious one: no certainty. You don't know what AUD/USD prints on the day your USD 480,000 payment is due in seven weeks. You only know what it prints today.

Forward contracts: the mechanics

A forward contract locks in an exchange rate today for settlement on a specified future date. Usually a few days to twelve months out, sometimes longer for stronger credits. The forward rate isn't anyone's forecast. It falls out of a formula:

Forward rate = Spot × (1 + r_quote × t) / (1 + r_base × t)

Where r_quote is the interest rate of the quote currency (e.g., USD), r_base is the interest rate of the base currency (e.g., AUD), and t is the time to settlement in years. When AUD rates sit above USD rates, AUD trades at a forward discount against USD, meaning you buy USD more cheaply forward than at spot. When AUD rates sit below USD rates, the opposite holds and AUD trades at a forward premium.

The point worth holding onto: a forward isn't a punt on direction. The forward points aren't a prediction. They're what the maths has to be, because if they weren't, you could replicate the same effective rate by booking an AUD term deposit and shorting the equivalent USD funding, and arbitrage would close the gap.

A few variations are worth knowing. A fixed-date forward settles on a single specified day, which is best when you know exactly when payment is due. A window forward (sometimes called flexible or option-dated) lets you draw down all or part of the contract within a date range, useful when supplier timing slips by a week or two. A non-deliverable forward is cash-settled in a freely convertible currency without physical delivery, which is how you hedge restricted currencies like CNY, INR or BRL.

When forwards beat spot

The decision isn't religious. It's about matching the tool to the cash flow.

1. The exposure has a known timing and amount

This is the threshold condition. If you've signed a contract to pay USD 240,000 in 90 days for inventory, the date and amount are both reasonably certain. A forward locks in the AUD cost from the moment you sign the supply contract. Your gross margin on that shipment, in AUD, becomes deterministic on day one rather than a moving target right up to settlement.

Without that timing certainty, you don't have a hedge. You have a date mismatch dressed up as one.

2. The FX move would meaningfully damage margin

A 5% adverse AUD move on a USD 240,000 payment is roughly AUD 18,500. If your gross margin on that shipment is AUD 60,000, you've just lost 30% of the deal's profit to currency. For a business operating on net margins of 5-10%, that single move can wipe out the contract.

The honest test: if AUD/USD moved 5% against you between today and the payment date, would that change anything material about the shipment's economics or your margin for the quarter? If yes, hedge. If you can pass FX moves through to your downstream customer in real time, you genuinely don't have to.

3. You have committed downstream pricing

This is where importers most often get hurt. You quote a wholesale customer a price in AUD with 60-day delivery, based on today's AUD/USD. You buy the inventory in USD. Between quote and delivery, AUD/USD drops 4%. Your AUD cost rises, but your sale price is locked. Margin compresses or evaporates.

A forward booked at the same time as the customer quote eliminates this problem. The cost of goods in AUD is fixed, the sale price in AUD is fixed, the margin is fixed. Treasury becomes invisible to operations, which is what good treasury looks like.

4. Volatility is elevated or regime-shifting

AUD is a commodity-linked, risk-on currency. It moves on iron ore, China data, RBA decisions and US rates. Over the last five years, implied 3-month AUD/USD vol has ranged from roughly 6% annualised in calm windows to over 14% in shock periods. A 14% vol implies a one-standard-deviation 3-month range of around 7%. That's meaningful when your net margin is 8%.

When implied vol is elevated, the value of locking in a rate goes up. The forward itself doesn't cost any vol premium because it's symmetric, but the value of certainty rises with the variance you're avoiding.

5. Cash flow predictability matters more than upside

This is really the question. A forward swaps the chance of a favourable move for the elimination of an adverse one. If you'd describe an unexpected AUD windfall on your import bill as "a nice surprise" but an unexpected loss as "a real problem," your own asymmetry is telling you to hedge. Most owner-operators feel that way: a loss of $X hurts more than a gain of $X feels good. That asymmetry is the textbook reason risk management exists.

A worked example

Say you're a Melbourne-based homewares importer with a USD 500,000 payment due in 120 days. Today's spot is 0.6500. The 120-day forward, with AU 4-month rates around 4.10% and US 4-month around 4.30%, prices at about 0.6504. That's a forward premium of 4 pips, because USD rates are marginally above AUD rates.

Your AUD cost at today's forward: USD 500,000 / 0.6504 = AUD 768,758.

Three scenarios at settlement:

• AUD/USD rises to 0.6800: spot cost would have been AUD 735,294. The forward "costs" you AUD 33,464 versus going unhedged. But you knew your cost on day one.
• AUD/USD unchanged at 0.6500: spot cost AUD 769,231. The forward is essentially flat, costing only AUD 473 (the forward-points cost).
• AUD/USD falls to 0.6200: spot cost AUD 806,452. The forward saves you AUD 37,694 versus going unhedged.

Notice the symmetry. The forward isn't a winning trade or a losing trade. It's a removed trade. You replaced an uncertain AUD cost with a known one, and your margin on the shipment became a known quantity instead of a roll of the dice.

The mistake businesses make is to evaluate the forward ex-post against the realised spot. That framing turns every hedge into a "should we have hedged" debate after the fact. The right framing is ex-ante: at the time of decision, was a known cost worth more to your business than an unknown one? For a committed supplier obligation, the answer is almost always yes.

Practical considerations

Credit lines and margin

A forward is an unsecured commitment to transact at a future date. Your provider takes credit risk on you for the mark-to-market value of the contract. For most SMEs that means one of two things: a credit facility, where a non-bank specialist or your bank extends a forward dealing line based on your financials; or an initial margin of around 5-10% of notional, plus variation margin if the position moves against you significantly.

For multi-million-dollar programs you may be asked to sign an ISDA Master Agreement and CSA. For SME-sized hedging, a simpler facility agreement is the norm.

Forward points aren't a fee

A common misconception: "the forward rate is worse than spot, so the forward is more expensive." Whether forward is better or worse than spot depends on which way the interest rate differential cuts. When AUD rates sit above USD rates, you buy USD more cheaply forward (a forward discount on AUD). When AUD rates sit below USD rates, you pay more (a forward premium). Either way, this isn't a fee. It's the cost of carry.

The only actual fee is your provider's spread, which is added on top.

Layering

You don't have to hedge 100% of an exposure. Many businesses layer, booking forwards covering, say, 50% of next quarter's expected payments, 30% of the quarter after, and 20% beyond that. This blends your effective rate over time, reduces regret risk if the market moves favourably, and gives you flexibility if forecast volumes change.

Avoid over-hedging

Hedge committed exposures, not speculative ones. If your supplier orders aren't placed yet, the obligation isn't real yet. Forward-hedging a forecast purchase you might not actually make is how a hedger turns into a speculator without noticing. The standard discipline: never hold notional forward outstanding that exceeds confirmed or highly probable purchase orders for the same period.

Risks and limitations of forwards

Forwards aren't free of complications.

The first is opportunity cost. If AUD strengthens after you book, your locked rate suddenly looks worse than the prevailing spot. That isn't a real loss. Your business outcome is exactly what you signed up for. But it can feel like one to people who weren't in the conversation, and communicating with stakeholders about this matters more than CFOs typically expect.

Then there's cancellation. If the underlying obligation disappears, say a shipment falls over or a downstream customer pulls out, you still own the forward. Closing it out crystallises a P&L either way. That's why forwards belong only against committed exposures.

Rolling matters too. If your payment slips beyond the forward maturity, you'll need to extend, which means closing the existing contract and opening a new one for the later date. The mechanics are straightforward, but the cost-of-carry adjustment surprises CFOs who haven't seen it before.

Last, counterparty risk. A forward is only as good as the counterparty behind it. Use a regulated AFSL holder, check the legal entity, and read the PDS. For larger programs, document the relationship properly.

A simple decision rubric

Run committed foreign-currency obligations through this filter:

1. Is the payment date known within a 14-day window?
2. Is the amount known within 10%?
3. Would a 5% adverse FX move materially affect margin or cash flow?
4. Have you priced or committed downstream in AUD?
5. Is the time to payment more than 30 days?

Three or more "yes" answers and a forward is almost certainly the better tool than waiting for spot. Five "yes" answers and not hedging is a deliberate choice to take currency risk on top of operational risk, which is rarely a position a non-financial business actually wants to be in.

Closing

The point of hedging isn't to beat spot. It's to make currency a non-event in your P&L, so operations can be judged on operations. Spot is the right tool for short, small, or genuinely unpredictable exposures. Forwards are the right tool for the predictable, material, committed obligations that make up the bulk of an importer's foreign currency activity.

Most Australian SMEs under-hedge not because they've thought about it and chosen to take the risk, but because nobody has ever raised it properly. Raise it once a quarter. Match the tool to the cash flow. Treat treasury as boring infrastructure rather than a profit centre. The businesses that do this consistently are the ones whose margins survive the next AUD shock.