Currency Exposure and Hedging Practices among Indian Non-financial Firms

Abstract

This article investigates the exchange-rate exposure of S&P CNX 500 non-financial constituents during 2006–2011. By using a standard two-factor market model, we measure the sensitivity of stock returns to changes in the exchange rate and find that 11 per cent of sample firms are significantly exposed to exchange-rate fluctuations. Further, we empirically evaluate the impact of hedging strategies adopted by our sample firms on the exchange-rate exposure. Our evidence suggests that the usage of foreign currency derivatives and foreign currency debt significantly reduces firms’ exchange-rate exposure. Smaller firms appear to have lower levels of exchange-rate exposure as compared to larger firms. A significant negative relationship between exchange-rate exposure and foreign currency derivatives supports the hypothesis that firms use foreign currency derivatives for hedging and not for speculative purposes. These results are found to be robust to alternative ways of measuring foreign currency exposure, exchange-rate indices and estimation methods.