Abstract
Foreign exchange (FX) dealers are exposed to currency risk through both market and counterparty activities. Research in FX risk management has mainly focused on long-term risks, yet trading costs associated with longterm strategies make them undesirable for short-term risk hedging. In this paper, a short-term risk management system for FX dealers is described in which the optimal risk-cost proles are obtained through dynamic control of the dealer’s positions on the spot market. This approach is formulated as a stochastic receding horizon control (SRHC) problem, incorporating elements which model client ow, transaction cost, market impact, exchange rate volatility and
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