UPLOAD
Multinational Financial Management
Curtis Curry
American Military University
Factors Affecting Transaction Exposure The factors that affect a firm’s degree of transaction exposure in a particular currency are collectively known as currency risk. The designation of currency risk is assigned based on numerous factors including political and economic factors that affect central banking decisions regarding interest rates. Interest rate risk along with inflationary risk is two economic factors that affect a firm’s degree of transaction exposure (Shapiro, 2010). These risks combine what are known as exogenous forces that influence the currency risk for firms operating overseas or hedging against net receivables.
Interest Rates Transaction exposure can be reduced by knowing the potential for currency risk in an economy relative to the currency position of the firm. For example, if the firm is worried the Malaysian economy will slow and the lending interest rate will rise, this will cause the currency to fluctuate and based on the rate of inflation and other factors can cause the currency to fall against the firm’s patriated currency. Transaction exposure in this case can be reduced by engaging in the spot currency market (Shapiro, 2010). If the need is urgent to move from ringgits to dollars, for example, the firm can use the sport foreign exchange currency markets to swap ringgits for dollars the next day. Most hedgers will use the forward market (Shapiro, 2010). The transactions in the forward market are of a longer duration than the spot market (Shapiro, 2010). The hedger will look to hedge their risk of currency depreciation by locking in a fixed exchange rate to be paid at a future date. The forward contract is calculated based on the forward rate and the swap rate. The forward rate is the interbank exchange rate and the swap rate is the market exchange rate (Shapiro, 2010). The forward contract would essentially allow the hedger to hedge
Curtis Curry
American Military University
Factors Affecting Transaction Exposure The factors that affect a firm’s degree of transaction exposure in a particular currency are collectively known as currency risk. The designation of currency risk is assigned based on numerous factors including political and economic factors that affect central banking decisions regarding interest rates. Interest rate risk along with inflationary risk is two economic factors that affect a firm’s degree of transaction exposure (Shapiro, 2010). These risks combine what are known as exogenous forces that influence the currency risk for firms operating overseas or hedging against net receivables.
Interest Rates Transaction exposure can be reduced by knowing the potential for currency risk in an economy relative to the currency position of the firm. For example, if the firm is worried the Malaysian economy will slow and the lending interest rate will rise, this will cause the currency to fluctuate and based on the rate of inflation and other factors can cause the currency to fall against the firm’s patriated currency. Transaction exposure in this case can be reduced by engaging in the spot currency market (Shapiro, 2010). If the need is urgent to move from ringgits to dollars, for example, the firm can use the sport foreign exchange currency markets to swap ringgits for dollars the next day. Most hedgers will use the forward market (Shapiro, 2010). The transactions in the forward market are of a longer duration than the spot market (Shapiro, 2010). The hedger will look to hedge their risk of currency depreciation by locking in a fixed exchange rate to be paid at a future date. The forward contract is calculated based on the forward rate and the swap rate. The forward rate is the interbank exchange rate and the swap rate is the market exchange rate (Shapiro, 2010). The forward contract would essentially allow the hedger to hedge
References: Attié, A. P., & Roache, S. K. (2009, April). Inflation Hedging for Long-Term Investors. IMF Working Paper. Fulli-Lemaire, N. (n.d.). Alternative Inflation Hedging Portfolio Strategies: Going Forward Under Immoderate Macroeconomics. Alternative Investment Analyst Review. Shapiro, A. C. (2010). Multinational Financial Management, (9th, ed.). John Wiley & Sons, Inc.