Spectra implements a FX Hedging Strategy to Protect an Acquisition of a LATAM Portfolio of Assets
Introduction to the Client
Spectra Investments is a large investor in the alternatives space in Brazil and Latin America, and they have the largest AUM among Latin American alternatives Fund of Funds.
Spectra offers sophisticated investors access to multiple strategies, through balanced funds, mitigating costs and risks.
Its portfolios are hybrid, investing in Growth, Buyout, Venture Capital, Distressed, Legal Claims, Mining, Search Funds and Special Situations, amongst others in the region.
The Problem
The main problem they were facing was Hedging the risk presented by a multiple currency portfolio and collateral request .
Spectra was looking to develop and implement a flexible FX hedging strategy to protect an acquisition of a Latin American portfolio of assets, which had multiple currency exposures.
Additionally, the portfolio’s different investments would also have varying notionals and maturities.
Due to the high volatility in LATAM currencies, (Fig 1) the FX fluctuation over the life cycle of the investment would have a material impact on the portfolio.
The Client first had to move and convert BRL funds (to USD) from its local vehicle to a new offshore SPV that would complete the acquisition of the Latam portfolio in a specific LATAM currency.
Then, these assets would be held for two-three years in this specific LATAM currency. After that period, the Client would exit the investments and would then move the proceeds from the sale back into BRL.
There were two stages of exposure within the fund’s lifecycle:
1. The assets are held for two to three years in local currency.
2. Sell the assets and move the funds back into BRL. Local to USD to BRL.
The Solution: Expedite FX Payments, Hedging Optimization and Maximizing Credit Facilities
After having an initial call with Spectra team to outline the exposures and investment horizon, we started by running multiple strategies through a number of Monte Carlo simulations in order to find the best combination of structures for the entire portfolio.
Simultaneously, we worked with our extensive network of payment providers to ensure we could achieve the best pricing for the international payment and approve that certain derivatives were tradable, given that we were working with emerging market currencies.
Through building an FX forward curve for each currency (Fig 2), we were able to determine the tenors that would maximize the positive carry, and which ones would reduce the hedging impact (negative carry). For each currency, we
modeled multiple hedging strategies to benchmark each strategy's success against one another.
Simultaneously, we worked with our extensive network of payment providers to ensure we could achieve the best pricing for the international payment and approve that certain derivatives were tradable, given that we were working with emerging market currencies.
Through building an FX forward curve for each currency (Fig 2), we were able to determine the tenors that would
maximize the positive carry, and which ones would reduce the hedging impact (negative carry). For each currency, we modeled multiple hedging strategies to benchmark each strategy's success against one another.
Fig 2
Strategy Comparison and
Payments
Using violin plots to illustrate the performance of each strategy (Fig 3), the Client was able to make a more informed decision on which strategy to adopt and was subsequently able to use that data to sell the strategy internally.
We worked with counterparties to ensure fund liquidity for Spectra whilst hedging and agreed to a separate credit facility that would allow the Client to book contracts without tying up investor capital as collateral, thus maximizing investor returns.
After a credit analysis process, we chose a counterparty that was offering an unmargined, unsecured and uncollateralized credit line to the Client, and a competitive fixed-spread solution.
Finally, Deaglo’s reporting tools allow the GP to monitor hedging positions, as well as track the hedge ratio, transaction costs, and data lags
Fig 3
Rômulo Monteiro, Operations
"Currency risk is a relevant matter when investing in Latam. Deaglo's analysis was helpful to understand the risk dynamics of the underlying currencies and what strategy to use at a cost-effective perspective.
By securing uncollateralized lines for our hedging strategy, we could take advantage of a most efficient capital allocation as well as the yield curve differential to lock a gain in the transaction"