The world´s latest decades have been branded by globalization, a process that has integrated the world and made its members more interdependent. Globalization has also expanded firms, who are now operating in several countries, dealing with different currency cash flows and consequently, with the risks of exchange rate changes. Both, Krugman (2009) and Shapiro (2010), agree that changes on exchange rates are due to a combination of several factors including supply and demand of foreign currency, inflation rates, interest rates, economic growth, political and economic risk and also expectations and speculations which are known as psychological factors.
Multinationals need to protect themselves from the fluctuation of the above mentioned factors as they are likely to cause variations on exchange rates impacting severely on the company's expected future cash flows and margins (economic exposure), balance sheet assets and revenues (translation exposure), competitiveness in the local and foreign markets and also in the company's strategies against foreign competitors operating or to operate both locally and abroad. According to the ISDA´s last survey (2009), the most popular tool amongst the largest companies in the world to cope with the above mentioned risks are derivatives, being used by 94% of them.
[...] (2010). Risk Management and Financial Institutions, Hull, J. (2011). Options, Futures, and Other Derivatives, th nd edn), Prentice Hall. edn), Prentice Hall. Kelley, M.P. (2001). ‘Foreign Currency Risk: Minimizing Transaction Exposure' Virginia Lawyer Magazine, June/July 2001 pp. 32-35. [online]. Available at: http://www.vsb.org/docs/valawyermagazine/jj01kelley.pdf (Accessed on 27 October 2012). [...]
[...] Assuming 1 November 2012 Page 3 of 17 Foreign Exchange Risk Management of Multinational Firms Nestlé Group has transaction costs of about which allows the firm to save CHF 280'000 ( 0.008 x CHF 35 million). Another technique, which could be used for long-term hedging, is the ability to shift the production and sourcing of inputs among subsidiaries. Firms can cope with currency fluctuations if a production in a country whose currency has devaluated can be increased and the production in another country whose currency has appreciated in real terms can be reduced (Shapiro, 2010) External Hedging Strategies Another strategy for hedging foreign exchange exposure is to use derivatives. [...]
[...] Futures and Forwards are mainly used when the volume and the date are well defined, while options are bought when it is less certain. Finally, swaps are used for long term hedging such as investment projects November 2012 Page 6 of 17 Foreign Exchange Risk Management of Multinational Firms 4. Bibliography Anonymous, (n.d.) Swaps' s.n. Available at: http://www.fxcenterusa.com/us/learning.asp (Accessed 27 October 2012). Anonymous, (2009). ´Over 94% of the World's Largest Companies Use Derivatives to Help Manage Their Risks, According to ISDA Survey´ - ISDA. Unpublished. [...]
[...] 1323-1354. JSTOR [online]. Available at: http://www.jstor.org/stable/2329438 (Accessed on 29 October 2012). Giddy, I. (2009) ‘Corporate Hedging: Tools and Techniques' [Online]. Available at: http://pages.stern.nyu.edu/~igiddy/articles/hedging_techniques.html (Accessed 24 October 2012). Grinblatt, M. et al (2001), ‘Information aggregation security design and currency swap' Yale International Center for Finance, Working paper 00-73, July November 2012 Page 7 of 17 Foreign Exchange Risk Management of Multinational Firms Homaifar, G. (2004). Managing Global Financial and Foreign Exchange Rate Risk New Jersey: John Wiley & Sons. Hull, J. [...]
[...] Both, futures and forwards, are used for short-term foreign 2 exchange management and when the currency exposure is well defined . The main drawback of those contracts is that the company can miss a profit on the currency exposure but prevent a loss in the other case OTC refers to the Over-The-Counter market, which is a network of financial professionals that deal on the phone or through the Internet but not on an exchange In the contrary, it is more appropriated to buy a currency option. [...]
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