Foreign Exchange Transaction Risk & Techniques to Control
Foreign Exchange Transaction risk & Techniques to Control
By Z. Song
Contents 1. Introduction………………………………………………………………………2 2. Main Body…………………………………………………………………… .2-9 3.1 Transaction exposure………………………………………………………2-3 3.2 Three Hedges………………………………………………………………3-9 3.3.1 Forwards……………………………………………………………4-6 3.3.2 Futures……………………………………………………………..6-8 3.3.3 Currency option……………………………………………………8-9 3. Conclusion…………………………………………………………………………………...………….11-13
Introduction
In the period of crisis the volatility of foreign exchange is the key element to be consider in the risk management strategy in multinational corporations. Foreign exchange exposure is a measure of the potential for financial items such as profitability, market value or cash flow to change because of a difference in exchange rates. This report will focus on one type of foreign exchange exposure-transaction exposure and three different hedging techniques in the current risk.
Main Body
2.1 Transaction exposure
The degree to which the value of future cash transactions can be affected by exchange rate fluctuations is referred to as transaction exposure (Pickard, 2011). In foreign exchange, it is possible to incurve exchange gains or loss (VentureLine, 2011). As such, it refers to variance in cash flows the result from existing contractual obligations. The situations including： 1. exists for corporations between the date of commercial contract and the receipt of home currency (Cowdell. P. & Hyde. D., 1988) 2. not only exist for trade but also for cash transfers (capital expenditure or receipts) and foreign dividends 3. Also lasts while a company is committed to selling or buying with other countries. 4. Pre transaction exposure occurs where a corporation is promised to receiving a fix price if buyers determine to purchase.
Transaction exposure is also known as transaction risk and it is a common financial risk associated with
By Z. Song
Contents 1. Introduction………………………………………………………………………2 2. Main Body…………………………………………………………………… .2-9 3.1 Transaction exposure………………………………………………………2-3 3.2 Three Hedges………………………………………………………………3-9 3.3.1 Forwards……………………………………………………………4-6 3.3.2 Futures……………………………………………………………..6-8 3.3.3 Currency option……………………………………………………8-9 3. Conclusion…………………………………………………………………………………...………….11-13
Introduction
In the period of crisis the volatility of foreign exchange is the key element to be consider in the risk management strategy in multinational corporations. Foreign exchange exposure is a measure of the potential for financial items such as profitability, market value or cash flow to change because of a difference in exchange rates. This report will focus on one type of foreign exchange exposure-transaction exposure and three different hedging techniques in the current risk.
Main Body
2.1 Transaction exposure
The degree to which the value of future cash transactions can be affected by exchange rate fluctuations is referred to as transaction exposure (Pickard, 2011). In foreign exchange, it is possible to incurve exchange gains or loss (VentureLine, 2011). As such, it refers to variance in cash flows the result from existing contractual obligations. The situations including： 1. exists for corporations between the date of commercial contract and the receipt of home currency (Cowdell. P. & Hyde. D., 1988) 2. not only exist for trade but also for cash transfers (capital expenditure or receipts) and foreign dividends 3. Also lasts while a company is committed to selling or buying with other countries. 4. Pre transaction exposure occurs where a corporation is promised to receiving a fix price if buyers determine to purchase.
Transaction exposure is also known as transaction risk and it is a common financial risk associated with