Use Of Foreign Exchange Derivatives Research Articles

Stein-type control function maximum likelihood estimator for the probit model in the presence of endogeneity

A Stein-type control function maximum likelihood (CFML) estimator is suggested for the probit model in the presence of endogeneity. This novel estimator combines the probit maximum likelihood and CFML estimators. The asymptotic distribution and risk function for the new estimator is derived. It is demonstrated that, subject to certain conditions of the shrinkage parameter, the asymptotic risk of the new estimator is strictly smaller than the risk of the CFML. Monte Carlo simulations illustrate the method's superiority in finite samples. The method is also applied to analyze the impact of managerial incentives on the use of foreign-exchange derivatives.

Chinese experience of using monetary policy instruments to stabilize exchange rate and achieve sustainable economic growth

Subject. The article deals with monetary policy as part of China's macroeconomic policy. It considers the use of tools of China’s monetary policy to stabilize exchange rate and achieve economic stability. Objectives. The aim is to explore practices and results of using the monetary policy tools in China. Methods. The study employs historical and systems approaches to unveil the relation of effective application of the monetary policy and its impact on macroeconomic indicators. The comparison method enabled to identify aspects of China's monetary policy applicable for Russia’s economy. Results. During 2014–2022, the People's Bank of China actively participated in managing the exchange rate, including through direct interventions, creation of administrative barriers to manage purchase and sale of currency, the use of adjustment factors and various rates. Depending on the global situation and domestic goals, both the liberalization of the currency system and the strengthening of control took place along with a change in the volume of use of these instruments. Interventions through State-owned banks and the use of foreign exchange derivatives, combined with measures to control capital flows, demonstrated a high degree of effectiveness. Conclusions. The study shows that a wide range of tools, together with timely communications from the Central Bank, make it possible to achieve stabilization of exchange rate within a short time, even in the presence of global destabilizing factors. It also emphasizes the need to develop flexible restraining mechanisms and administrative barriers to control capital flows under the volatility of the ruble.

Trade Linkage and Transmission of Geopolitical Risks: Evidence from the Peace Progress in 2018

Purpose - Using unexpected changes in geopolitical tensions on the Korean peninsula as a quasinatural experimental setting, we examine whether and how geopolitical risks travel across borders through firm-level imports and exports linkages. We also test whether the effects are driven by either imports or exports and assess whether firms can effectively hedge themselves against geopolitical risks.
 Design/methodology - We focus on a series of unanticipated geopolitical events taken place in Korea in 2018. Making use of the shocks to geopolitical climate, we identify five milestone events toward peace talks. We employ the event studies methodology. We examine heterogenous firm-level stock price reactions around key event dates depending on firms’ exposure to geopolitical risks. As a measure of firms’ exposure to geopolitical risks in Korea, we utilize a text-based measure of firm-level trade links. When a firm announces and discusses its purchase of inputs from Korea or sales of outputs to Korea in their annual disclosure filings, we define a firm to have a trade relationship with Korea and have exposure to Korean geopolitical risks. Similarly, we use a measure of a firm’s hedging policies based on a firm’s textual mention of the use of foreign exchange derivatives in their annual disclosure.
 Findings - We find that U.S. firms that have direct trade links to Korea gained significantly more value when the intensity of geopolitical risks drops compared to firms without such trade links to Korea. The effects are pronounced for firms purchasing inputs from or selling outputs to Korea. We find that the effectiveness of foreign exchange hedging against geopolitical risks is limited.
 Originality/value - We document the international transmission of geopolitical uncertainty through trade linkages. Export links as well as import links serve as important nexus of transmission of geopolitical risks across borders. Hedging strategies involving foreign-exchanges derivatives do not seem to insulate firms again geopolitical risks. With the recent movements of localization and reshuffling of the global value chain, our results suggest a significant impact of geopolitical risks in Korea on the construction of the global value chain.

Managers’ research education, the use of FX derivatives and corporate speculation

In contrast to the U.S., many executive managers of firms in German-speaking countries have a PhD. In this paper we analyze if a research-oriented background in the form of a PhD is linked to the corporate decision-making of CFOs in the use of foreign exchange (FX) derivatives in Germany. After controlling for fundamental firm characteristics, compensation schemes and personal characteristics of managers, we find some evidence that CFOs with a PhD in a business-related area tend to use FX derivatives less, while CFOs with a general business education do so more. Analyzing their behavior with regard to speculation, we find strong evidence that CFOs with a PhD speculate less on the FX market compared to CFOs with another (business) education. A possible reason may be that a research-oriented education is more associated with critical awareness and long-term orientation in corporate decision-making that persuades managers to avoid overconfident behavior.

Managerss Research Education, the Use of FX Derivatives and Corporate Speculation

In contrast to the U.S., many executive managers of continental European firms have a PhD. In this paper we analyze if a research-oriented background in the form of a PhD is linked to the corporate decision-making of CFOs in the use of foreign exchange (FX) derivatives in Germany. After controlling for fundamental firm characteristics, compensation schemes and personal characteristics of managers, we find some evidence that CFOs with a PhD in a business-related area tend to use FX derivatives less, while CFOs with a general business education do so more. Analyzing their behavior with regard to speculation, we find strong evidence that CFOs with a PhD speculate less on the FX market compared to CFOs with another (business) education. A possible reason may be that a research-oriented education is more associated with critical awareness and long-term orientation in corporate decision-making.

FX Cash Flow Risk Management: Financial Reporting Issues and Practical Implications

Companies having foreign sales can avoid large fluctuations in earnings and cash flows caused by changes in foreign exchange (FX) rates through the use of foreign exchange derivatives (FXDs). FXDs used to mitigate the effect of FX rate changes on forecasted transactions can qualify as cash flow hedges under Statement of Financial Accounting Standards No. 133 (SFAS 133). According to SFAS 133, the mark‐to‐market (MTM) gains/losses on effective cash flow hedges are reported in other comprehensive income on the balance sheet, instead of on the income statement. This article explains how CFOs and treasurers may benefit from understanding the strategic and practical implications of reporting foreign‐exchange hedges, including the disclosure of hedge ratio data (i.e., the extent of cash flow hedge use).

Hedging, selective hedging, or speculation? Evidence of the use of derivatives by Brazilian firms during the financial crisis

This paper analyse the use of foreign exchange derivatives by non-financial publicly traded Brazilian companies from 2007 to 2009. Using balance-sheet data on firms’ positions in derivatives and their foreign exchange exposure, the paper verifies the existence of three groups of derivative users: hedgers, selective hedgers – companies that significantly changed the volume of derivatives used during this period, but used them in line with their currency exposure – and active speculators – companies that adopted positions that would have been inadvisable had the aim been to hedge their currency exposure. Selective hedgers and speculators have one similarity: both tried to obtain gains through the continuous process of domestic currency appreciation. Confirming the optimal hedging literature, the paper shows that several firm characteristics are able to explain the use of derivatives and hedging by firms but market timing in the derivative markets is explained solely by firms’ foreign exposure, corporate governance and the macroeconomic environment.

Managing foreign exchange risk with derivatives in UK non-financial firms

This study assesses the effect of derivatives use of large UK non-financial firms in their foreign exchange risk management activity and tests value relevance of FRS 13. Using a sample of FT UK 500 non-financial firms for 1999 when FRS 13 was implemented, we examine the foreign exchange risk exposure of the firm that is engaged in international business activities, and the effect of the use of foreign exchange derivatives on the firm's foreign exchange risk exposure. There is evidence that UK non-financial firms use derivatives to hedge against the risk of unfavorable exchange rate movements and the hedge is effective in reducing firms' risk exposure to varied degrees. The results support value relevance of FRS 13 that numerical disclosure of derivatives use by firms reveals important information to investors and helps firms reduce the cost of capital and increase firm value.

Foreign Currency Risk Management Practices In U.S. Multinationals

<span>Todays multinational companies face potentially significant economic exposure to changing exchange rates. One way to manage such currency risk is through the use of foreign exchange derivatives. This paper examines how foreign exchange derivatives are used by U.S. multinationals. Recent studies report that the use of foreign exchange derivatives varies across U.S. multinationals and may depend on a variety of influences, including industry membership. We develop a model to explain these variations in the amounts of derivatives used in terms of differences in foreign currency exposure. The results are consistent with our expectations. In particular, the evidenced pertaining to a sample of 654 U.S. multinationals for the 1990-1994 period indicates that the notional amounts of foreign exchange derivatives are positively associated with the degree of foreign involvement, which proxies foreign currency exposure. Moreover, the results are not sensitive to industry membership or other interfirm differences. The findings of this paper are important because they contribute to a better understanding of the foreign currency risk management practices in U.S. multinationals.</span>

Hedge or Speculation? Evidence of the Use of Derivatives by Brazilian Firms During the Financial Crisis

This paper analyzes the use of foreign exchange derivatives by non-financial publicly traded Brazilian companies from 2007 to 2009. Using balance-sheet data on firms’ positions in derivatives and their foreign exchange exposure, this study finds that a significant number of companies speculated in the derivatives market. Two types of speculators are identified: companies that significantly increased the volume of derivatives used during this period but used them in line with their currency exposure and companies that adopted positions that would have been inadvisable had the aim been to hedge their currency exposure. Despite the differences between the two types, there is one similarity: both tried to obtain gains through the continuous process of domestic currency appreciation. The study shows that companies that allegedly have an informational advantage on the foreign exchange market – exporters and companies with foreign-currency-denominated debt – are more likely to speculate. No other theory about the reasons why companies speculate can explain the behavior of these companies.

Hedge or Speculation? Evidence of the Use of Derivatives by Brazilian Firms During the Financial Crisis

This paper analyzes the use of foreign exchange derivatives by non-financial publicly traded Brazilian companies from 2007 to 2009. Using balance-sheet data on firms’ positions in derivatives and their foreign exchange exposure, this study finds that a significant number of companies speculated in the derivatives market. Two types of speculators are identified: companies that significantly increased the volume of derivatives used during this period but used them in line with their currency exposure and companies that adopted positions that would have been inadvisable had the aim been to hedge their currency exposure. Despite the differences between the two types, there is one similarity: both tried to obtain gains through the continuous process of domestic currency appreciation. The study shows that companies that allegedly have an informational advantage on the foreign exchange market – exporters and companies with foreign-currency-denominated debt – are more likely to speculate. No other theory about the reasons why companies speculate can explain the behavior of these companies.

Integrated foreign exchange risk management: The role of import in medium-sized manufacturing firms

Empirical research has focused on export as a proxy for exchange rate exposure and the use of foreign exchange derivatives as an instrument to deal with this exposure. This empirical study applies an integrated foreign exchange risk management approach with a particular focus on the role of import in medium-sized manufacturing firms in Denmark (a small, open economy). We find a strong, negative relation between import and the use of foreign exchange derivatives on the aggregate level. Our findings are consistent with the notion that firms use import to match the foreign exchange exposure created by foreign sales activities.

Integrated Foreign Exchange Risk Management: The Role of Import in Medium-Sized, Manufacturing Firms

Empirical research has focused on export as a proxy for the exchange rate exposure and the use of foreign exchange derivatives as the instrument to deal with this exposure. This empirical study applies an integrated foreign exchange risk management approach with a particular focus on the role of import in medium-sized, manufacturing firms in Denmark (a small, open economy). We find a strong, negative relation between import and foreign exchange derivatives usage on the aggregate level. Our findings are consistent with the notion that firms use import to match the foreign exchange exposure created by foreign sales activities.

The Introduction of the Euro and Derivative Use in French Firms

AbstractIn January 1999 several European countries adopted a common currency, the “euro”. This important economic event provided an opportunity to examine the determinants of risk management in an environment where exposure to foreign exchange (FX) risk was considerably reduced. For a sample of French firms we found the decline in the use of FX derivatives was greater for firms with substantial sales within the euro zone and less for firms in industries that still had significant imports from outside the euro zone. The focus on derivatives adds to existing research, as it is a more explicit indicator of a reduction in the resources devoted to hedging. The reduction in hedging was not in direct proportion to the reduction in FX exposure, implying that euro risk was hedged more intensely than French franc risk in the sample of French firms over the chosen years.

Erklärungsfaktoren für den Einsatz von Währungsderivaten bei deutschen Unternehmen — eine empirische Logit-Analyse

We analyse the determinants of exchange risk management with derivative instruments by German nonfinancial companies testing hypotheses derived from financial theory. Our results differ from those of studies using data from Anglo-Saxon countries: Size related cost advantages, bankruptcy costs or costs of underinvestment because of an inadequate level of internal financing as suggested by Froot/Scharfstein/Stein (1993) turn out not to be significant. Variables that capture managerial interests or the extent of foreign exchange risk exposure are significant determinants of the use of foreign exchange derivatives. Further we find that closely held companies whose shareholders are less diversified and therefore should hedge more in fact use significantly less often foreign exchange derivatives.

Exchange rate exposure and foreign exchange derivatives: do ineffective hedgers modify future derivatives use?

Recent studies examining the relationship between stock returns and exchange rate changes have provided evidence that the exchange rate exposure of non-financial companies is reduced by the use of foreign exchange derivatives. Building on such research, this study investigates whether past ineffective derivative hedging contributes to explaining future derivatives use. To the extent that companies monitor the effectiveness of their currency risk management practices, past ineffective hedgers can be expected to modify their future use of foreign exchange derivatives accordingly. In our study of 94 non-financial US multinationals, we provide evidence that the change in derivatives use from 1996–1998 to 1998–2000 can be explained in part by the ineffective hedging of currency risk in 1996–1998, controlling for variables associated with theories of optimal hedging. Additional analyses confirm that such primary results are robust to firm size, the level of foreign operations, and the use of derivatives to partially hedge currency risk. Our results imply that as exchange markets and risk management practices change, the use of derivatives to manage exchange rate risk also changes. Our contribution to this field of study is that we find evidence that past ineffective hedgers tend to increase their future use of FXDs.

Managerial Incentives and the Use of Foreign-Exchange Derivatives by Banks

This paper investigates the effect of managerial incentives on the use of foreign-exchange derivatives by U.S. bank holding companies, as end users, over the period 1996-2000. Our data from 252 large bank holding companies allow us to separate derivatives used for purposes other than trading from derivatives used for trading. This unique data set permits the investigation of derivative use in a hedging framework without the elimination of large dealer firms. Additionally, we employ a model suggested by Cragg (1971) that facilitates the examination of the factors underlying the likelihood a firm will use derivatives and the magnitude of foreign-exchange derivatives utilization. We find that managerial incentives determine the decision to use derivatives to hedge, but once managers decide to hedge, firm-specific risk factors determine the amount of derivatives used.

The effectiveness of currency-hedging techniques over multiple return horizons for foreign-denominated debt issuers

In this study we use a unique dataset to examine the effectiveness of hedging techniques in reducing currency risk across different time horizons. Our primary results indicate that issuers of foreign-denominated debt (FDD) effectively use foreign exchange derivatives (FXD) and geographic sales-to-asset alignment to reduce currency exposure. We measure currency exposure, over multiple return horizons, as the sensitivity of firm’s stock returns to changes in the exchange rate while controlling for market’s return. In particular, we find that the use of foreign exchange derivatives is effective in the short-term horizon and the geographic sales-to-asset alignment is effective in the intermediate and longer-term horizons. When we control for foreign sales and for firm size, the primary results are robust. Our study contributes to the literature by providing evidence of the time period when the use foreign exchange derivatives and the geographic sales-to-asset alignment is most effective for issuers of foreign-denominated debt.

The management of foreign currency risk: derivatives use and the natural hedge of geographic diversification

This study investigates how large US multinational companies use foreign exchange derivatives (FXDs) to manage currency risk. The study tests whether a company's use of FXDs is associated with its exposure to changing exchange rates, and whether such risk management practices are affected by the company's degree of geographic diversification indicative of natural hedging. To date, the empirical evidence on the use of derivatives by large companies is limited, and the impact of geographic diversification on FXD use, in particular, has not been investigated. This study addresses such a gap in the literature and provides results that are consistent with expectations. Specifically, the evidence indicates that large companies' FXD use increases with the level of foreign currency exposure as well as with the degree of geographic concentration indicative of using less natural hedging. Evidence consistent with economies of scale in FXD use is also provided.