Management of Foreign Exchange Risk by the Organ is at Ions

8/8/2019 Management of Foreign Exchange Risk by the Organ is at Ions

1/19

MANAGEMENT OF FOREIGN

EXCHANGE RISK BY THE

ORGANISATIONS

How Do They Do It ?

Rishav Mehta


2/19

The F reign Exchange Market


3/19

WHAT IS FOREIGN

EXCHANGE?

The f reign exchange currenc r f rex

r FX market exists herever ne

currenc is traded f r an ther. It is b

far the largest financial market in the

rld, and includes trading bet een

large banks, central banks, currenc

speculat rs, multinati nal c rp rati ns,

g vernments, and ther financial

markets and instituti ns.


4/19

WHAT IS FOREIGN

EXCHANGE?

The currency in your pocket isliterally stock in your country, and

like a share, its value fluctuates on

the international market providing

knowledgeable traders withsubstantial opportunities for profit

or loss.


5/19

SOURCES OF FOREIGN EXCHANGE

Overseas Sales Operations

Manufacturing Facilities

Outsourced Development or Support

Balance Sheet Conversions

Changing competitive position in the economy


6/19

SOURCES OF FOREIGN

EXCHANGE

Every international transaction

across national boundariesexposes either the importers orthe exporters to foreignexchange risk.


7/19

TYPES OF FOREIGN EXCHANGE

RISK!!

Transactional - Extent to which the future cashtransactions of the firm may be affected by anychanges in the currency exchange rate.

Economic It measures the impact of changesin exchange rate on the firm's cash flows and

earnings.

Translation - It measures the impact of changesin exchange rate on the financial statements ofthe group of company.


8/19


9/19

HEDGING INSTRUMENTS

Forwards

Money Market Hedge

Futures

Options

Swaps


10/19

FORWARDS

This can be analyzed by 2 points of view :

Exporter - An exporter who is expecting to receive the foreignexchange after 6 months can sell the amount to bank under aforward contract so that the receivable can be realized by him at theforward rate irrespective of the prevailing rate on the date ofrealization.

Importer - An importer can make the payment at a future dateunder forward contract at the forward rate.

The main advantage of a forward is that it can be tailored to

the specific needs of the firm and an exact hedge can be

obtained.


11/19

MONEY MARKET HEDGE

The risk is c vered b b rr ing in

f reign currenc c nverting the same

int home currenc and investing in themone market to neutralize the

position.


12/19

FUTURES

A futures contract is similar to the

for ard contract but is more liquid

because it is traded in an organizedexchange i.e. the futures market.

epreciation of a currenc can be

hedged b selling futures and

appreciation can be hedged b bu ing

futures.


13/19

OPTIONS

A currency Option is a contract giving the right, not the obligation, to buy or

sell a specific quantity of one foreign currency in exchange for another at a

fixed price; called the Exercise Price or Strike Price. The fixed nature of the

exercise price reduces the uncertainty of exchange rate changes and limits the

losses of open currency positions. There are two types of Options :

1. Call

2. Put


14/19

Call Option It is the right to bu anunderl ing securit at a given price. Call Options

are used if th

e risk is an up ard trend in price.

Put Option It is the right to sell an

underl ing securit at a given price. Put Optionsare used if the risk is a downward trend.


15/19

OptionsExchange Rate

>

Strike Price

Exchange Rate

Documents

Management of Foreign Exchange Risk by the Organ is at Ions