FOREIGN EXCHANGE AND RISK MANAGEMENT

Foreign exchange involves conversion of one currency into other currency. Foreign exchange market is the biggest market in the world in terms of daily trading volumes. The value of one currency over other currency is determined by various factors like trade, investments, geo-political risk, country’s growth, etc. There is a risk involved in foreign exchange which is called exchange rate risk or currency risk. Investors and businesses exporting or importing goods and services or making foreign investments are exposed to exchange rate risk since their wealth is affected by movements in Foreign Exchange Risk Management.

One of the exchange rate risks is transaction risk which is mainly associated with imports and exports. If a company exports goods on credit then amount it will finally receive depends on the Foreign Exchange movement from the transaction date to the settlement date. As group action risk contains a potential impact on the money flows of an organization, most companies choose to hedge against such exposure.



Transaction risk can be managed by using following range of financial products.

Forward Contracts
A forward contract is associate agreement between 2 parties giving the customer associate obligation to buy associate quality (and the vendor associate obligation to sell associate asset) at a group price at a future point in time.

Futures Contracts
Futures contracts are standard sized, traded hedging instruments. The aim of a currency derivative instrument is to repair associate rate at some future date, subject to basis risk.

Options
A currency choice may be a right, but not an obligation, to buy or sell a currency at an exercise price on a future date. If there's a positive movement in rates the corporate can permit the choice to lapse, to take advantage of the favorable movement. The right can solely be exercised to guard against associate adverse movement, i.e. the worst-case scenario.

Forex Swaps
In a forex swap, the parties agree to swap equivalent amounts of currency for a period and then re-swap them at the end of the period at an agreed swap rate. The swap rate and quantity of currency is in agreement between the parties ahead. Thus it's referred to as a set rate/fixed rate swap.

Currency Swaps
A currency swap permits the 2 counter parties to swap charge per unit commitments on borrowings in several currencies.

Read more about Letter Of Credit

Comments

  1. Vikas GautamOctober 26, 2019 at 11:15 AM

    Thanks for sharing this useful information about Forex Risks, this may helpful for beginners.

    ReplyDelete

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