International Currency Risk

Introduction

Currency risk could be defined as the exchange rate risk that occurs from the price change of a currency in relation to another one. Firms or investors that possess assets or business operations across national borders are vulnerable to currency risk that may generate unpredictable profits and losses. Nevertheless, for most companies, managing foreign exchange risk involves finding a way to mitigate transaction risk. some measures can be adopted to reduce those risks.

In the next lines, I will

• Give a definition of currency risk and tell businesses that are affected to that risk.

• Explain the different types of currency risk

• Explain why and how to manage the risk of change

• Be presenting first the issues and next the challenges

The decision to buy currency hedging instruments is like underwriting other forms of insurance. The insured risk in this case is the weakening of the cash position and profit margins caused by unfavourable exchange rate movements. Many companies unhesitatingly protect their accounts receivable against the risk of non-payment and all companies protect themselves against possible catastrophes by taking out insurance on their property. They do so to protect their cash position and to ensure that their efforts and talents serve first and foremost to carry on the core business activities of their businesses. For many companies, active in international markets, foreign exchange risk management is like the management of other insurable

Let us take the example of a Canadian manufacturing company that exports to the United States and expects to receive revenues of $ 5 million in the coming year. If it expects to make payments of $ 500,000 during this period, the Company's expected exposure to the US dollar will be $ 4.5 million. To reduce this risk, the company can decide to borrow USD 1 million and increase the value of its supplies from US suppliers of USD 1.5 million. In this way, the company reduces its exposure to risk to 2 million USD. The company may also decide to construct or purchase a production facility in the United States and thus virtually eliminate transaction risk. While natural hedging may sometimes mitigate foreign exchange risk effectively, implementation often requires long delays (sometimes finding new suppliers in a foreign country is difficult) and these operations often require a long-term commitment (E.g. borrowings in