Global Finance: Foreign Currency Hedging

Global Finance: Foreign Currency Hedging

Brandon M. Angus

University of Phoenix

MGT/448

March 11, 2010

J. woods

The hedging of foreign currency is essential in today’s global market. Virtually anyone who operates in a foreign country and its stock market is exposed to the risks of doing so and will eventually need aid in avoiding these risks. Currency hedging provides a means of minimizing risk that is involved in foreign investing. This risk involves the exposure to negative shifts in the market. Many factors for risk must be considered when dealing in foreign markets. When any type of trading takes place in a foreign market the investors are inevitably subject to the risk of unfavorable exchange rates that lead to losses. This is also known as foreign exchange risk exposure. When money is rented or lent to foreign consumers or businesses the payments are subject to possible interest rate movements for that country resulting in losses to one or both parties involved. This is referred to as interest rate exposure.

In hedging, basically what is done is a business will take two offsetting, opposing positions, in two different parallel markets. This offset will compensate a loss on one side with an excess profit on the other essentially evening out in the end and eliminating the risk. By doing this, ones incomes and expenditures are not affected by any fluctuations in interest rates or exchange rates. One may ask how this is accomplished exactly. The way this works is that an investor will convert a native currency to that of a foreign countries currency at a particular time when the exchange rate is beneficial. The investor then will make his or her investment in a foreign company with the currency that was exchanged and is native to the country which the company being invested in is based.

Many may think or believe that currency hedging is used to make profit when the actual main goal and benefit is simply to minimize risk and exposure....