Professional Documents
Culture Documents
FOREIGN EXCHANGE
RISK MANAGEMENT
Lecturer tefan N M Ungureanu, PhD
Course Outline
1. The foreign exchange market
2. International parity conditions
3. Foreign currency derivatives
4. Measuring and managing transaction exposure to
currency risk
MAI FX Risk Management tefan N M Ungureanu, PhD
Exchange rates and intl. business
Any time a transaction has crossed borders, it has
been subject to the influence of changes in
exchange rates
Basic problem posed by exchange rates on cross-
border transactions: money across borders has no
fixed value
Our course purposes:
to understand, categorize and define the types of
exchange rate risks that firms face across borders
to address how managers can plan for, manage, and
hedge these risks
MPI FX Risk Management tefan N M Ungureanu, PhD
Foreign exchange reported losses
Company Country Loss (in millions) Period
Abbot Lab. USA USD 41.3 1993
Bank Negara Malaysia USD 2,100 1993
Citizen Japan JPY 15 Q2, 2002
Penoles Mexico USD 15.8 2000
Readers Digest USA USD 2.2 Q1-Q3, 1994
PepsiCo USA USD 53 1998
Toyota Japan JPY 1,200 Q1-Q4, 2004
Gazprom Russia USD 4,500 2009, Q1
MPI FX Risk Management tefan N M Ungureanu, PhD
Exchange rate fluctuations
MPI FX Risk Management tefan N M Ungureanu, PhD
Exchange rate fluctuations
USD/EUR, January 1999 October 2011
MPI FX Risk Management tefan N M Ungureanu, PhD
Exchange rate fluctuations
RON/EUR, July 2005 October 2011
MPI FX Risk Management tefan N M Ungureanu, PhD
Exchange rate fluctuations
Source: McKinsey Global Institute Global capital markets: Entering a new era, October 2009
MPI FX Risk Management tefan N M Ungureanu, PhD
Before a manager can start to grapple with the
effective or potential consequences of exchange
rates changes on the business, it is necessary to
understand some of the underlying forces in the
foreign exchange market
MPI FX Risk Management tefan N M Ungureanu, PhD
FOREIGN EXCHANGE
RISK MANAGEMENT
Topic 1 Foreign Exchange Market (FOREX)
Topic 1 Outline
1. Currency terminology
2. FOREX organization and structure
3. The spot market
4. The forward market
MPI FX Risk Management tefan N M Ungureanu, PhD
1. Currency terminology
Exchange rate / foreign currency exchange rate
Exchange rate regime/system
Exchange rate regimes
Free float
Managed float
Fixed-rate regime
Devaluation versus depreciation
Revaluation versus appreciation
Hard versus soft currencies
MPI FX Risk Management tefan N M Ungureanu, PhD
Free Float
The value of a free floating exchange rate is
exclusively established by demand and supply in
the foreign exchange market, with no outside
interventions
Over time, the exchange rate will fluctuate
randomly as market participants assess and react
to new information
Central bank (monetary authority) does not
intervene in the process of currency value
determination
MPI FX Risk Management tefan N M Ungureanu, PhD
Managed Float
Assumes central bank intervention, which
manipulates the exchange rate given its
objectives:
smoothing out exchange rate fluctuations
leaning against the wind
unofficial pegging of exchange rate
Central bank support of the rate is not automatic
Central bank reserves fluctuate quite heavily, but
typically around a certain level
MPI FX Risk Management tefan N M Ungureanu, PhD
Fixed-Rate System
Currencies maintained within a band (% of change
around a central value - parity)
Central banks actively buy or sell their currencies
in the foreign exchange market whenever the
exchange rate deviated from par value
In order to intervene on the FOREX, central bank
maintains reserves, which absorb the burden of
exchange rate adjustment high volatility of
reserves
Currency devaluation and revaluation is common
MPI FX Risk Management tefan N M Ungureanu, PhD
2. Organization of FOREX
The first global 24-hour market in the world and by far
the largest OTC market 2 tiers:
Wholesale tier liquid inter-bank market
60 to 70% of transactions
about 700 banks worldwide stand ready to make a market
in foreign exchange
there are FX brokers who match buy and sell orders but do
not carry inventory and FX specialists (dealers)
most inter-bank dealing is by phone & computer networks
there are corresponding banking relationships that
facilitate the functioning of the market
Retail tier client market
MPI FX Risk Management tefan N M Ungureanu, PhD
The worlds leading financial centers
0 4 8 12 16 20 24
Singapore
GMT
Sidney
Tokyo
Frankfurt
London
New York
MPI FX Risk Management tefan N M Ungureanu, PhD
FOREX Participants
Bank and non-bank FX dealers market makers
Individuals and firms conducting commercial and
investment transactions
Speculators and arbitragers
Central banks and treasuries
FX brokers
MPI FX Risk Management tefan N M Ungureanu, PhD
Markets by delivery date
Spot (rate: S
t
)
immediate (t) payment and delivery of currencies
settlement day : 1 or 2 working days
Forward (rate: F
t,T
)
payment and delivery at some future date (T)
common maturities: 30, 90, 180, 270, and 360 days,
and up to ten years
FX swap transactions
involve both a spot and a forward transaction, for
instance, buy spot and sell forward, or sell spot and
buy forward, with the same counterparty
MPI FX Risk Management tefan N M Ungureanu, PhD
Motives for FX transactions
Arbitrage is the simultaneous, or nearly simultaneous,
purchase of securities in one market for sale in another
market with the expectation of a risk-free profit
Speculation entails more than the assumption of a
risky position it implies financial transactions
undertaken when an individuals expectations differ
from the markets expectation
Hedging is the avoidance of foreign exchange risk by
entering into a transaction that lays off the risk to a
willing counter party
MPI FX Risk Management tefan N M Ungureanu, PhD
Foreign exchange market turnover
Global net turnover (2010) = US$ 3,210 billion per business day
Turnover = total US dollar value of all spot, outright forward, and
foreign exchange swap transactions concluded (not settled) during the
month of April
MPI FX Risk Management tefan N M Ungureanu, PhD
Currency distribution of FOREX
MPI FX Risk Management tefan N M Ungureanu, PhD
FOREX turnover by geographical
distribution, 2010
MPI FX Risk Management tefan N M Ungureanu, PhD
3. Spot Exchange Markets
1. Definition of exchange rates
2. Quoting conventions
3. Bid and ask rates
4. Cross exchange rates
MPI FX Risk Management tefan N M Ungureanu, PhD
Definition of Exchange Rates
Exchange rate
amount of currency that one has to pay in order to
buy one unit of another currency
amount of currency that one receives when selling
one unit of another currency
Which money is being bought or sold? depends
on home currency
MPI FX Risk Management tefan N M Ungureanu, PhD
Quoting conventions
Professional dealers and brokers quote currencies
in either of two ways:
direct basis HC/FC such as Canadian dollars per
US dollar or Romanian leu per US dollar when this
quote involves the USD as HC : American terms
indirect basis FC/HC such as US dollar per British
Pound (GBP) when this quote involves the USD as
HC : European terms
Most currencies are quoted on a direct basis, the
exception being some currencies from the former
Commonwealth - the most important ones are the
British pound and the Euro
MPI FX Risk Management tefan N M Ungureanu, PhD
Quoting conventions
Every exchange transaction involves two currencies
1.5625 CHF/USD
A trader always buys or sells a fixed amount of the
base currency
How to interpret changes in exchange rates:
numerator increases the base currency is
strengthening the base currency appreciates and the
terms currency depreciates
numerator decreases the base currency is weakening
the base currency depreciates and the terms currency
appreciates
base/quoted currency terms/counter currency
numerator denominator
MPI FX Risk Management tefan N M Ungureanu, PhD
Measuring a change in spot rates
Example: 1.5625 CHF/USD to 1.2800 CHF/USD
% change in the value of the USD in terms of the CHF is:
% change in the value of the CHF in terms of the USD is:
18.08%
1.5625
1.5625 - 1.2800
rate Beginning
rate Beginning - rate Ending
= =
22.09%
1.2800
1.2800 - 1.5625
rate Ending
rate Ending - rate Beginning
+ = =
USD depreciated by 18.08% against the CHF
CHF appreciated by 22.09% against the USD
MPI FX Risk Management tefan N M Ungureanu, PhD
Spot bid and ask quotations
Market makers will quote the rate at which they are
willing to buy the base currency (Bid) (in terms of the
other currency) and the rate at which they are ready
to sell the base currency (Ask)
1.5130 - 1.5145 CHF/USD
Often the quotation will be shortened to 30/45. These
numbers are points a point is the fourth place to
the right of the decimal point (0.0001)
The difference between the bid and the ask price is
the spread SPREAD = S
ask,t
S
bid,t
> 0
Market maker sells USD Market maker buys USD
Client sells USD Client buys USD
MPI FX Risk Management tefan N M Ungureanu, PhD
Inverting exchange rates in the
presence of spreads
Rule: the inverse of a bid quote is an ask quote, and vice
versa
ask,t
bid,t
S(USD/CAD)
1
S(CAD/USD) =
bid,t
ask,t
S(USD/CAD)
1
S(CAD/USD) =
Example: 1.3727 1.3730 CAD/USD
0.7283 - 0.7285 USD/CAD
MPI FX Risk Management tefan N M Ungureanu, PhD
Cross exchange rates
Cross exchange rate = exchange rate between 2
currency pairs where neither currency is the USD
( ) USD/GBP
t
S (EUR/USD)
t
S (EUR/GBP)
t
S =
Example: S(EUR/USD) = 1.2823
S(USD/GBP) = 1.4128
Cross exchange rate EUR/GBP is:
S(EUR/GBP) = 1.2823 x 1.4128 = 1.8116
MPI FX Risk Management tefan N M Ungureanu, PhD
3. Forward Markets
1. Forward market quotations
2. Forward premium or discount
3. Interest rate parity
4. Long and short forward positions
MPI FX Risk Management tefan N M Ungureanu, PhD
Forward market quotations
Buying and selling currencies for delivery on a
stipulated future date, at a rate agreed upon now
Practice: forward price = spot
Premium versus discount
When base currency is more expensive in the future
than it is now in terms of the other currency, the
former is said to be at a premium (assuming direct
quotes)
When base currency is less expensive, it is said to
stand at a discount (assuming direct quotes)
MPI FX Risk Management tefan N M Ungureanu, PhD
Forward market quotations
Outright rate
Spot 1.5130 - 1.5145 CHF/USD
3-month forward 1.5053 - 1.5078
Swap points
Spot 1.5130 - 1.5145 CHF/USD
3-month forward 77 - 67
MPI FX Risk Management tefan N M Ungureanu, PhD
Forward market quotations
Recovering the outright forward price from the
swap points rule :
1. If the points are decreasing, subtract from the spot
price
2. If the points are increasing, add to the spot price
Spread on
spot
15
Spread on
forward points
10
Spread on
outright forward
25
+ =
MPI FX Risk Management tefan N M Ungureanu, PhD
Forward market quotations
Suppose you read the following quotations:
Spot 1.4815 29 CAD/USD
3-month forward 40 38
Spot 0.6556 70 CHF/USD
6-month forward 51 64
The 3-month CAD/USD outright forward rate is:
F(CAD/USD) = 1.4775 - 1.4791
The 6-month CHF/USD outright forward rate is:
F(CHF/USD) = 0.6607 0.6634
MPI FX Risk Management tefan N M Ungureanu, PhD
Forward quotations in percentage terms
100
n
360
S
S - F
scount Premium/Di =
F - forward price
S - spot price
n - number of days in the contract
Discount on base currency is different from the
premium on terms currency
MPI FX Risk Management tefan N M Ungureanu, PhD
Forward quotations in percentage terms -
example
Suppose the following:
Spot rate 1.5437 CHF/USD
3-month forward rate 1.5398 CHF/USD
The discount on the USD is:
The premium on CHF is:
-1.01%p.a. = 100
90
360
1.5437
1.5437 - 1.5398
. a . p 1.013% = 100
90
360
1.5398
1.5398 - 1.5437
+
MPI FX Risk Management tefan N M Ungureanu, PhD
Interest rate parity
Interest rate parity (IRP) is an arbitrage condition that
establishes a relationship between spot and forward
exchange rates, and risk-equivalent domestic and
foreign nominal interest rates
Forward premium/discount ~ Interest differential
between currencies
The currency with the higher interest rate is at a
discount, the one with the lower interest rate is at a
premium
) i + (1
) i + (1
S
F
FC
HC
HC/FC
HC/FC
=
FC HC
i - i
S
S F
~
= 11.56% p.a.
MPI FX Risk Management tefan N M Ungureanu, PhD
IRP and Covered Interest Arbitrage
According to IRP only one 360-day forward rate,
F
360
($/), can exist this is
Why?
If F
360
($/) = $1.20/, an arbitrageur could
engage in covered interest arbitrage (CIA)
and make money with one of the following
strategies:
$/ 1.20
0.1156 1
0.0710 1
1.25
360
F =
+
+
=
MPI FX Risk Management tefan N M Ungureanu, PhD
Arbitrage Strategy 1
If F
360
($/) > $1.20/
1. Borrow $1,000 at t = 0 at i
$
= 7.10%.
2. Exchange $1,000 for 800 at the prevailing spot
rate, (note that 800 = $1,000$1.25/)
3. Invest 800 at 11.56% (i
= 11.56% .
2. Exchange 800 for $1,000 at the prevailing spot
rate,
3. Invest $1,000 at 7.1% for one year to achieve
$1,071.
4. Translate $1,071 back into pounds if F
360
($/) <
1.20/, $1,071 will be more than enough to repay
your obligation of 892.48
MPI FX Risk Management tefan N M Ungureanu, PhD
Graphical Analysis of IRP
Zone of potential CIA
(sell FC forward)
Zone of potential CIA
(buy FC forward)
Interest Rate Differential: (i
HC
-i
FC
)/(1+i
FC
)
Forward
Premium (%)
Forward
Discount (%)
- 2
- 4
2
4
1 3 - 1 - 3
IRP line
Zone where CIA
is not feasible due
to transaction
costs
MPI FX Risk Management tefan N M Ungureanu, PhD
Long and short forward positions
Buy a currency = taking a long position
S
t+1
> F
t,t+1
buyer gains
S
t+1
< F
t,t+1
buyer looses
Sell a currency = taking a short position
S
t+1
> F
t,t+1
seller looses
S
t+1
< F
t,t+1
seller gains
Example: F
180 days
= 105 /$
MPI FX Risk Management tefan N M Ungureanu, PhD
Payoff profiles for forward contracts
loss
0
S
180
(/$)
F
180
(/$) = 105
120
If, in 180 days, S
180
(/$) = 120, the long will
make a profit by selling $ at S
180
(/$) = 120
and receiving $ at F
180
(/$) = 105.
15
profit
long position
MPI FX Risk Management tefan N M Ungureanu, PhD
Payoff profiles for forward contracts
If, in 180 days, S
180
(/$) = 120, the short
will lose by having to buy $ at S
180
(/$) =
120 and delivering $ at F
180
(/$) = 105.
loss
0
F
180
(/$) = 105
profit
120
15
S
180
(/$)
short position
MPI FX Risk Management tefan N M Ungureanu, PhD
Payoff profiles for forward contracts
0
S
180
(/$)
F
180
(/$) = 105
short position
long position
Since this is a zero-sum game,
the long position payoff is the
opposite of the short.
loss
profit
MPI FX Risk Management tefan N M Ungureanu, PhD
FOREIGN EXCHANGE
RISK MANAGEMENT
Topic 2 International Parity Conditions
Topic 2 Outline
1. The Parity Framework
2. Law of One Price and Purchasing Power Parity
3. Interest Rate Parity
4. Fisher Effects
5. Forward Rate Unbiased Property
6. Empirical evidence on parity conditions and
managerial implications
MPI FX Risk Management tefan N M Ungureanu, PhD
1. The Parity Framework
The framework is founded upon:
assumptions of rational economic behavior
the ability to transact freely at no cost in the markets
for goods and credit as well as the market for foreign
exchange
Simple models that describe relationships
between:
the spot exchange rate
the forward exchange rate
the interest rates
the inflation rates
MPI FX Risk Management tefan N M Ungureanu, PhD
Relevance and usefulness
Empirical evidence supporting each individual
parity condition is mixed
How much do they hold in the real world?
depends on the extent to which trade barriers
restrain the activities of traders from enforcing the
law of one price through arbitrage
Collectively, they constitute a useful way of
ordering ones thinking about the economic forces
governing exchange rate movements
international financial benchmarks or break-
even values
MPI FX Risk Management tefan N M Ungureanu, PhD
2. Law of one price (LOP)
Identical goods will sell for the same price in two
markets, taking into account the exchange rate
P
t
[US, wheat] = Spot
t
[$/] x P
t
[UK, wheat]
Example: $4.50 = $1.50 x 3.00
bushel bushel
Enforced by arbitrage across markets buying where
the product is cheap and selling where the product is
dear
LOP can prevail over the long run due to the forces of
supply and demand
MPI FX Risk Management tefan N M Ungureanu, PhD
Purchasing Power Parity (PPP)
PPP establishes a formal link between a countrys price
level or inflation rates (relative to another country)
and the prevailing exchange rate between the two
countries
Absolute PPP based on price levels in 2 countries:
P
t
[US] = Spot
t
[USD/GBP] x P
t
[UK]
the exchange rate will adjust to eliminate
discrepancies in price levels OR
price levels will adjust to eliminate discrepancies in
exchange rates
MPI FX Risk Management tefan N M Ungureanu, PhD
Purchasing Power Parity (PPP)
Relative PPP based on price indexes in 2 countries:
The spot exchange rate adjusts perfectly to inflation
differentials: if goods prices rise in HC relative to FC,
then HCs currency must depreciate to maintain a
similar real price for the goods in the two countries
The change in the exchange rate is roughly equal to
the difference in inflation rates (inflation differential)
rate inflation - ;
+ 1
+ 1
=
S
S
FC
HC
0
HC/FC
1
HC/FC
FC HC
FC
HC
0
0 1
PPP
PPP
1
1
1
S
S S
S ~
+
+
=
=
MPI FX Risk Management tefan N M Ungureanu, PhD
Purchasing Power Parity - example
Example:
Switzerland inflation rate 4% p.a.
US inflation rate 2% p.a.
Spot rate
0
1.50 CHF/USD
(The USD will appreciate and CHF depreciate accordingly)
PPP predicts a 2% appreciation of USD against CHF and a
2% depreciation of CHF against USD
CHF/USD 1.5295
1.02
1.04
1.50 S
1
PPP
= =
2% - 4% 1.96%
1.02
1.04
S
PPP
~ + = = A 1
MPI FX Risk Management tefan N M Ungureanu, PhD
Purchasing Power Parity Line
Given an S
actual
:
AS
HC-FC
= t
HC
- t
HC
we are on the PPP line
and PPP holds
AS
HC-FC
= t
HC
- t
HC
we are not on the PPP
line and PPP does not
hold
-7
-6
-5
-4
-3
-2
-1
0
1
2
3
4
5
6
7
-7 -6 -5 -4 -3 -2 -1 0 1 2 3 4 5 6 7
0
0 1
actual
HC/FC
S
S S
S
=
FC HC
MPI FX Risk Management tefan N M Ungureanu, PhD
Real exchange rate
Assume t
FC
> t
HC
and t
HC
is constant FC is expected
to depreciate against HC, according to PPP
this does not necessarily mean that the real value of HC
purchases of goods and services across borders has
become cheaper
if the increase in P
FC
has exactly offset the decline in
value of the FC, then PPP would remain the same
there has been a nominal depreciation of FC, but not a
real depreciation
What matters for PPP across any two countries is the
change in the nominal value of a currency after
adjustment for changes in the relative inflation rates
between the two countries
MPI FX Risk Management tefan N M Ungureanu, PhD
Real exchange rate
These deviations from PPP are measured using the real
exchange rate and changes in real exchange rate
Real exchange rate
Interpreting q values:
q=1 PPP holds (benchmark value)
q>1 FC appreciates in real terms against HC
HC depreciates in real terms against FC
q<1 FC depreciates in real terms against HC
HC appreciates in real terms against FC
t) Spot(PPP,
t) l, Spot(Actua
q = t) Spot(Real,
t
=
MPI FX Risk Management tefan N M Ungureanu, PhD
Real exchange rate example
Case 1
S
actual
=1.50 CHF/USD
S
PPP
=1.50 CHF/USD
CHF and USD are
at their values
Case 2
S
actual
=1.55 CHF/USD
S
PPP
=1.50 CHF/USD
USD overvalued
CHF undervalued
Case 3
S
actual
=1.45 CHF/USD
S
PPP
=1.50 CHF/USD
USD undervalued
CHF overvalued
1
1.50
1.50
q = =
1.033
1.50
1.55
q = =
0.967
1.50
1.45
q = =
MPI FX Risk Management tefan N M Ungureanu, PhD
Changes in real exchange rate
Example:
S
0
=1USD/EUR; t
$
=5% p.a.; t
=10% p.a.
PPP actual
PPP
PPP actual
S S
S
S S
q ~
=
0
0
1
actual
S
S S
0
0
1
PPP
S
S S
USD/EUR 0.9545
1.10
1.05
1 S
1
PPP
= =
4.55% 1
1.10
1.05
S
PPP
= =
PPP predicts a 4.55% depreciation of EUR against USD
MPI FX Risk Management tefan N M Ungureanu, PhD
Changes in real exchange rate
Example (contd)
3 possible cases regarding S
1
actual
:
S
1
actual
(USD/EUR)
AS
actual
(%) AS
PPP
(%) Aq(%) Interpretation
0.9545 -4.55 -4.55 0 No change in q
0.9600 -4.00 -4.55 +0.55 EUR appreciated in
real terms by 0.55%
against USD
0.9500 -5.00 -4.55 -0.45% EUR depreciated in
real terms by 0.45%
against USD
Nominal depreciation of EUR
MPI FX Risk Management tefan N M Ungureanu, PhD
Interest rate parity (IRP) states that the forward
premium or discount for the quoted currency reflects
the difference in interest rates for banking deposits in
the two currencies
The currency with the higher interest rate is at a
discount, the one with the lower interest rate is at a
premium
If IRP did not hold, then it would be possible for an
arbitrageur to make money exploiting the arbitrage
opportunity covered interest arbitrage
3. Interest rate parity
) i + (1
S
F
= ) i + (1
FC
HC/FC
HC/FC
HC
MPI FX Risk Management tefan N M Ungureanu, PhD
4. The Fisher Effects
Fisher parities describe how information regarding
expected inflation and expected exchange rates are
captured in interest rates
Fisher closed equation that links nominal interest
rate and inflation expectations for a single economy
Fisher closed represents another example of arbitrage
between real assets and financial assets within a
single economy
) (1 r) (1 i (1 + + = + )
r i + =
(approximation)
MPI FX Risk Management tefan N M Ungureanu, PhD
The International Fisher Effect (Fisher
Open or UIP)
Interest rates across countries must be set with an eye
toward expected exchange rate changes
The derivation of IFE is another straightforward
application of arbitrage an interest arbitrage but
uncovered
the expected spot exchange rate between two currencies
should change by an equal amount but in opposite direction
to the difference in interest rates between the two countries
i - i
S
S - ) E(S
ely approximat or
i + 1
i + 1
=
S
E(S
FC HC
0
0 1
FC
HC
0
1
~
)
% expected exchange = % interest differential
rate change
MPI FX Risk Management tefan N M Ungureanu, PhD
IFE and Exchange Rate Predictions
IFE predictions
HC interest rates > FC interest rates HC is expected
to depreciate E(S
1
) > S
0
logic: investors must be
paid a higher interest rate to compensate them for a
unit of account that is expected to depreciate in value
HC interest rates < FC interest rates HC is expected
to appreciate E(S
1
) < S
0
logic: investors willingly
accept a lower interest rate when they hold a unit of
account that is expected to appreciate in value
Computation of the markets implied future spot
rate:
t
FC
HC
1 + t
S
i + 1
i + 1
= ) E(S
MPI FX Risk Management tefan N M Ungureanu, PhD
IFE and Real Interest Rate Parity
Suppose Fisher closed is valid in HC and FC
HC HC HC
r i + =
FC FC FC
r i + =
) ( ) r (r i i
FC HC FC HC FC HC
+ =
FC HC FC HC
i i =
(IFE)
S
S ) E(S
i i
0
0 1
FC HC
=
0 r r assume
FC HC
=
holds PPP assume
IFE implicitly assumes that real interest rates are equal across
countries
MPI FX Risk Management tefan N M Ungureanu, PhD
5. The Forward Rate Unbiased Property
Follows directly from IRP and IFE:
% Forward premium = % Expected Exchange Rate Change
t
t 1 + t
t
t 1 + t t,
S
S ) E(S
=
S
S F
-
-
Forward rate is an unbiased predictor of the future spot
rate forward rates and interest differentials neither
systematically over- and underestimate the future spot rate
F
t,t+1
S
t
=
1+i
HC
1+i
FC
=
E(S
t+1
)
S
t
F
t,t+1
= E(S
t+1
)
MPI FX Risk Management tefan N M Ungureanu, PhD
Combining the parity relations
S
0
= 1.3250 CHF/USD
F
0,360
= 1.3509 CHF/USD
t
CHF
= 4% pa; t
USD
= 2% pa t
CHF
- t
USD
= 2%
i
CHF
= 5% pa; i
USD
= 3% pa i
CHF
i
USD
= 2%
Forward premium on USD
Forecast change in the spot rate
2% 2% 4%
S
S F
0
0 0,360
= ~
)
Total value
Time value
Intrinsic value
MPI FX Risk Management Alexandra Horobet, PhD
FX options price determinants
Premium rises if :
For a Call For a Put
1. Spot rate
2. Exercise price
3. Interest rate in HC
4. Interest rate in FC
5. Volatility
6. Time to maturity
MPI FX Risk Management tefan N M Ungureanu, PhD
3. Currency Swaps
1. The short-term swap
2. Back-to-back and parallel loans
3. The modern currency swap
4. Absolute and comparative advantage in swaps
5. Valuation of swaps
MPI FX Risk Management tefan N M Ungureanu, PhD
Some useful definitions
In a swap, two counterparties agree to a
contractual arrangement wherein they agree to
exchange cash flows related to debt obligations at
periodic intervals
Two types of swaps:
Single currency interest rate swap interest rate
swap fixed for floating swap
Cross-Currency interest rate swap currency swap
fixed for fixed swap
The market for currency swaps evolved first, but
today the market for interest rate swaps is larger
MPI FX Risk Management tefan N M Ungureanu, PhD
The Short-term Currency Swap
Bank of England (BoE) wants to borrow USD from
the Bundesbank (Buba)
Buba asks, as security, an equivalent amount of GBP
(to be deposited by the BoE with the Buba)
Barring default, on the expiration day the USD and the
GBP would each be returned, with interest, to the
respective owners
MPI FX Risk Management tefan N M Ungureanu, PhD
The Short-term Currency Swap An Example
Example
S = 2.50 $/, r
$
= 3%, r
= 5%
Time t:
BoE receives $100m from the Buba for six months
BoE deposits 100m/2.5 = 40m into an escrow
account with the Buba
Time T:
Buba returns 40m x 1.05 = 42m
BoE returns $100m x 1.03 = $103m
MPI FX Risk Management tefan N M Ungureanu, PhD
Back-to-back Loans
UK institutional investor (UKII) wants to invest in
US, but an investment dollar premium makes
foreign investments expensive to UK investors
UKII wants to avoid the spot market at t and T
UKII sets up a deal with a foreign firm (USCo) that
wants to invest in the UK
USCo lends $ to UKII
UKII lends to USCo (or its UK subsidiary)
Right of offset between these two loan contracts
if (say) UKII cannot pay back, USCo can withhold
its payments and sue for the net loss (if any)
MPI FX Risk Management tefan N M Ungureanu, PhD
Back-to-back Loans
USD
Flow of initial principals under a back-to-back loan
USD capital
market
UKII
USCos
subsidiary
USCo
GBP
MPI FX Risk Management tefan N M Ungureanu, PhD
Parallel Loans (I)
USCo faces capital export controls she cannot
export USD to its UK subsidiary
UKCo wants to lend to its US subsidiary, but there
is a dollar premium
Both can avoid the spot market by granting loans to
each other (or to each others subsidiary), with a
right of offset in the two loan contracts
MPI FX Risk Management tefan N M Ungureanu, PhD
Parallel Loans (II)
The initial flows of principal under a parallel loan
UKCos
subsidiary
UKCo
USCos
subsidiary
USCo
USD
GBP
MPI FX Risk Management tefan N M Ungureanu, PhD
The Modern Currency Swap
Two parties agree to
exchange, at time t, two initially equivalent principals
denominated in different currencies may be
skipped
return these principals to each other at T
pay the normal interest, periodically, to each other on
the amounts borrowed
One single contract, with a right of offset
MPI FX Risk Management tefan N M Ungureanu, PhD
The Swap Bank
A swap bank a financial institution that
facilitates swaps between counterparties
The swap bank can serve as either a broker or a
dealer.
Broker it matches counterparties but does not
assume any of the risks of the swap
Dealer it stands ready to accept either side of a
currency swap, and then later lay off their risk, or
match it with a counterparty
MPI FX Risk Management tefan N M Ungureanu, PhD
Absolute advantage in borrowing
A US MNC needs to borrow CHF 1.6m for the next 4 years
A Swiss MNC needs to borrow $1m for the same period
Spot rate: 0.625$/CHF
Borrowing opportunities:
US dollar CHF
US MNC 6.00% p.a. 5.00% p.a.
Swiss MNC 7.50% p.a. 3.50% p.a.
Absolute advantage 1.50% 1.50%
MPI FX Risk Management tefan N M Ungureanu, PhD
Absolute advantage in borrowing
US MNC
Swap
Bank
$6%
$6%
CHF 4%
CHF 3.5%
$6.5%
Swiss
MNC
CHF 3.5%
US
Bank
Swiss
Bank
MPI FX Risk Management tefan N M Ungureanu, PhD
Absolute advantage in borrowing
US MNC
Swap
Bank
$6%
$6%
CHF4%
CHF3.5%
$6.5%
Swiss
MNC
CHF3.5%
US
Bank
Swiss
Bank
US MNCs net position is to borrow at CHF4%
US MNC saves CHF1%
MPI FX Risk Management tefan N M Ungureanu, PhD
Absolute advantage in borrowing
US MNC
Swap
Bank
$6%
$6%
CHF4%
CHF3.5%
$6.5%
Swiss
MNC
CHF3.5%
US
Bank
Swiss
Bank
Swiss MNCs net position is to borrow at $6.5%
Swiss MNC saves $1%
MPI FX Risk Management tefan N M Ungureanu, PhD
Absolute advantage in borrowing
US MNC
Swap
Bank
$6%
$6%
CHF4%
CHF3.5%
$6.5%
Swiss
MNC
CHF3.5%
US
Bank
Swiss
Bank
The swap bank
makes money too:
+0.5% on CHF
+0.5% on $
The swap bank faces
exchange rate risk, but
maybe they can lay it
off in another swap.
MPI FX Risk Management tefan N M Ungureanu, PhD
Comparative advantage in
borrowing
Consider two firms A and B:
Firm A U.S.based multinational
Firm B U.K.based multinational
Both firms wish to finance a project in each others
country of the same size borrowing
opportunities
$
Company A 8.0% 11.6%
Company B 10.0% 12.0%
MPI FX Risk Management tefan N M Ungureanu, PhD
A is the more credit-worthy of the two firms
Still, A has a comparative advantage in borrowing
in dollars it borrows at 2% less than B
B has a comparative advantage in borrowing in
pounds it borrows at only 0.4% less than A
If they borrow according to their comparative
advantage and then swap, there will be gains for
both parties
Comparative advantage in
borrowing
MPI FX Risk Management tefan N M Ungureanu, PhD
Comparative advantage in
borrowing
Company
A
Swap
Bank
$8%
12%
$8%
11%
12%
$9.4%
Company
B
MPI FX Risk Management tefan N M Ungureanu, PhD
Comparative advantage in
borrowing
$8%
12%
$8%
11%
12%
$9.4%
As net position is to borrow at 11%
A saves 0.6%
Swap
Bank
Company
A
Company
B
MPI FX Risk Management tefan N M Ungureanu, PhD
Comparative advantage in
borrowing
$8%
12%
$8%
11%
12%
$9.4%
Bs net position is to borrow at $9.4%
B saves $0.6%
Swap
Bank
Company
A
Company
B
MPI FX Risk Management tefan N M Ungureanu, PhD
Comparative advantage in
borrowing
$8%
12%
$8%
11%
12%
$9.4%
The swap bank
makes money too:
At S
0
($/) =
$1.60/, that is a
gain of $64,000 per
year for 5 years.
The swap bank faces exchange rate risk, but maybe they can
lay it off in another swap.
1.4% of $16 million
financed with 1% of
10 million per year
for 5 years.
Swap
Bank
Company
A
Company
B
MPI FX Risk Management tefan N M Ungureanu, PhD
Swap rates
The interest payments for each currency are based
on the currencys swap (interest) rate yields
at par for near-riskless bonds with the same
maturity as the swap
Why risk-free rates?
Right-of-offset clause
Probability of default is small
MPI FX Risk Management tefan N M Ungureanu, PhD
Costs
A commission of, say, USD500 on a USD1m swap, for each
payment to be made
Equivalent up-front fee is asked
Example
7-year yields at par: 7.17% on USD and 9.9% on DEM
The swap dealer quotes:
USD 7.13% - 7.21%
DEM 9.85% - 9.95%
If you borrow DEM and lend USD you pay 9.95%
on the DEM, and you receive 7.13% on the USD
MPI FX Risk Management tefan N M Ungureanu, PhD
Valuation of currency swaps (I)
A company swaps a loan of GBP 50m into USD 100m for 7
years swap rates: 10% on USD leg and 12% on GBP leg
Spot rate at the beginning of the swap: 2 USD/GBP
Two years after the inception of the swap, the swap rates
have changed: 8% on the USD leg and 14% on the GBP leg
Also, the spot rate has changed to 1.7 USD/GBP
Which is the value of this swap at the inception and after
two years?
MPI FX Risk Management tefan N M Ungureanu, PhD
Valuation of currency swaps (II)
The initial exchange of principals is a zero-value
transaction, since the amounts are initially equivalent
The future interest payments have also equal present
values
At inception:
At the spot rate of 2 USD/GBP, the two legs are equivalent
swap value =0
$100m
1.1
100m
1.1
10m
PV
7
7
1 t
t
USD
= + =
=
GBP50m
1.12
50m
1.12
6m
PV
7
7
1 t
t
GBP
= + =
=
MPI FX Risk Management tefan N M Ungureanu, PhD
Valuation of currency swaps (III)
After two years:
Swap value = PV of inflows PV of outflows
For the company paying USD:
PV of swap in USD = GBP46.567m 1.7 USD/GBP
USD107.985m
= -USD28.821 NET LIABILITY
$107.985m
1.08
100m
1.08
10m
PV
5
5
1 t
t
USD
= + =
=
GBP46.567m
1.14
50m
1.14
6m
PV
5
5
1 t
t
GBP
= + =
=
MPI FX Risk Management tefan N M Ungureanu, PhD
FOREIGN EXCHANGE
RISK MANAGEMENT
Topic 4 Managing and Measuring Exposure
to FX Risk
Topic 4 Outline
1. FX Exposure taxonomy
2. Measuring transaction exposure (TREX)
3. Managing transaction exposure using financial
instruments
Forward contracts
Money market operations
Currency options
MPI FX Risk Management tefan N M Ungureanu, PhD
Risk and exposure to risk
Exchange risk = uncertainty about the future spot rate
measured by o
2
(S
t
) or o(S
t
)
currency variability levels may change over time
Currency 1981-1993 1994-1998
British pound 0.0309 0.0148
Canadian dollar 0.0100 0.0110
Japanese yen 0.0279 0.0298
New Zealand dollar 0.0289 0.0190
Swedish krona 0.0287 0.0195
Swiss franc 0.0330 0.0246
Singapore dollar 0.0111 0.0174
Standard Deviations of Exchange Rate Movements
Based on Monthly Data
MPI FX Risk Management tefan N M Ungureanu, PhD
Risk and exposure to risk
Exchange rate exposure: measures how sensitive the
(home-currency) value of a firm, an asset/liability, or
cash flow is to changes in the exchange rate
Example
A portfolio contains (1) a CHF (=FC) T-bill maturing at
time t, with face value CHF100,000, and (2) a USD (=HC)
T-bill with face value at time t of USD50,000
V
t
= USD50,000 + CHF100,000 x S
t
Exposure = CHF100,000
t
t
t t
t t
S
V
) E(S S
) E(V V
Exposure =
=
MPI FX Risk Management tefan N M Ungureanu, PhD
Types of foreign exchange exposure
Transaction (contractual) exposure
measures changes in the value of outstanding financial
obligations incurred prior to a change in exchange rates
but not due to be settled until after the exchange rates
change
deals with changes in cash flows the result from existing
contractual obligations
V
t
= HC value of contractually fixed cash flows
Operating (economic, competitive, strategic) exposure
measures the change in the market value of the firm
resulting from any change in future operating cash flows
of the firm caused by an unexpected change in exchange
rates
V
t
= market value of the firm
MPI FX Risk Management tefan N M Ungureanu, PhD
Types of exchange rate exposure
Accounting (translation) exposure
Occurs because of the need to translate FC financial
statements of foreign affiliates into a single currency to
prepare worldwide consolidated financial statements
V
t
= book value of the firm when consolidation occurs
Moment in time when
exchange rate changes
Accounting exposure
Transaction exposure
Operating exposure
Time
MPI FX Risk Management tefan N M Ungureanu, PhD
Which exposure matters most?
Jesswein, Kwok, Folks Adoption of Innovative Products in Currency Risk
Management: Effects of Management Orientations and Product
Characteristics, Journal of Applied Corporate Finance, Fall 1995
Mean score of
level of
agreement
Managing transaction exposure is important 1.4
Managing operating exposure is important 1.8
Managing translation exposure is important 2.4
A survey of corporate treasurers and CFOs
(1) strongly agreed (5) strongly disagreed
MPI FX Risk Management tefan N M Ungureanu, PhD
Do companies hedge FX risk?
GM is exposed to market risk from changes in foreign
currency exchange rates, interest rates, and certain
commodity prices. In the normal course of business, GM
enters into a variety of foreign exchange, interest rate, and
commodity forward contracts, swaps, and options, with the
objective of minimizing exposure arising from these risks. A
risk management control system is utilized to monitor
foreign exchange, interest rate, commodity, and related
hedge positions.
General Motors Annual Report, 2004
MPI FX Risk Management tefan N M Ungureanu, PhD
Do companies hedge FX risk?
In the normal course of business, we are exposed to
foreign currency exchange rate, interest rate and equity
price risks that could impact our financial position results
of operations. Our risk management strategy with respect
to these three market risks includes the use of derivative
financial instruments. We use derivatives only to manage
existing underlying exposures of HP. Accordingly, we do not
use derivative contracts for speculative purposes.
Hewlett-Packard Annual Report, 2004
MPI FX Risk Management tefan N M Ungureanu, PhD
Measuring TREX
Sources of TREX:
Purchasing or selling on credit goods or services whose
prices are stated in foreign currencies
Borrowing or lending funds when repayment is due in
foreign currencies
Being a party to an existing foreign exchange forward
contract
Otherwise acquiring assets or incurring liabilities
denominated in foreign currencies
Attributes of TREX:
It is typically a short-term exposure
High certainty regarding the exposure timing and
amount
MPI FX Risk Management tefan N M Ungureanu, PhD
Measuring TREX from transactions at a
particular date
Inflows: FC accounts receivables
FC long-term sales contracts
FC deposits, bonds, notes
Forward purchase of FC
Outflows: FC accounts payable
FC long-term purchase contracts
FC loans, bonds, notes
Forward sales of FC
Net Exposure = Total inflows Total outflows
Only this amount is hedged
MPI FX Risk Management tefan N M Ungureanu, PhD
Measuring TREX from transactions at a
particular date
Example:
Spanish firm with USD commitments recorded on May 1:
1. A/Rs: USD 100,000 - June 1; USD 2,200,000 - July 1
2. Expiring deposits: USD 3,000,000 - June 1
3. A/Ps: USD 2,300,000 - June 1; USD 1,000,000 - July 1
4. Loan due: USD 2,300,000 - July 1
MPI FX Risk Management tefan N M Ungureanu, PhD
Measuring TREX from transactions at a
particular date
Transaction June 1 July 1
INFLOWS A/R 100,000 2,200,000
Deposit 3,000,000
OUTFLOWS A/P -2,300,000 -1,000,000
Loan -2,300,000
NET EXPOSURE 800,000 -1,100,000
MPI FX Risk Management tefan N M Ungureanu, PhD
Hedging using forward contracts
If you are going to owe foreign currency in the future,
agree to buy the foreign currency now by entering into
long position in a forward contract.
If you are going to receive foreign currency in the
future, agree to sell the foreign currency now by
entering into short position in a forward contract.
Example: Swiss exporter, A/R $1 million, 3 months
maturity, S
0
= 1.5000 CHF/$, F
90
= 1.4960 CHF/$
MPI FX Risk Management tefan N M Ungureanu, PhD
1.49
1.492
1.494
1.496
1.498
1.5
1.502
1.504
1.506
1.508
1.51
1.490 1.492 1.494 1.496 1.498 1.500 1.502 1.504 1.506 1.508 1.510
Spot rate in 3 months
A
/
R
v
a
l
u
e
(
C
H
F
,
m
i
l
l
i
o
n
s
)
Hedging using forward contracts
Unhedged
Forward hedge
Gains from
forward hedge
Losses from
forward hedge
MPI FX Risk Management tefan N M Ungureanu, PhD
Hedging using forward contracts
Forward contracts eliminate FX risk certainty over
future revenues and payments in FC, when translated in
HC
Which is the cost of using forwards for hedging?
Real cost compare forward rate with the future spot
Expected cost = 0 (if forward rate is unbiased)
Possibility of bias in forward rate SELECTIVE
HEDGING:
Long FC hedge when FC is at a forward discount
Short FC hedge when FC is at a forward premium
1
1 0,1
S
S F
cost Real
=
It can be known only at contract
maturity
MPI FX Risk Management tefan N M Ungureanu, PhD
Money market hedge Sunrise
Sunrise Corp. (US) has sold umbrellas to a Spanish
company and billed it 1m euros, to be paid in 1 year
A/R of 1m euros, 1 year maturity
S
0
: 1.1933$/euro, F
12m
:1.1850$/euro, i
$
=3.5% p.a.,
i
euro
= 4% p.a.
Money market hedge:
Borrow euros now 1m/1.04 = 0.9615m euros
Sell 0.9615m euros against $ at 1.1933$/euro
1.1474m$
Invest 1.1474m$ at 3.5% 1.1876m$ in one year hence
In one year, use the 1m euro from the contract to pay
the loan
Total result (certain): 1.1876m$
MPI FX Risk Management tefan N M Ungureanu, PhD
Forward vs. money market hedge
When should you use them?
If IRP is holding the results of forward hedge and
money market hedge will be the same
If IRP is not holding proceeds from money market
hedge will not be the same as those from forward hedge
one hedging method will dominate the other
Be aware of the fact that there might be higher
transaction costs associated to hedging using money
market as compared to forward:
Bid-ask spread on the forward contract
Difference between borrowing and lending rates
MPI FX Risk Management tefan N M Ungureanu, PhD
Hedging using options
Options provide a flexible hedge against the
downside, while preserving the upside potential.
To hedge a foreign currency receivable/asset buy
puts on the currency
If the FC depreciates, your put option lets you sell the
currency for the exercise price.
Options provide a floor price on the domestic
currency value of foreign exchange:
Floor price = Exercise price of put Put premium
MPI FX Risk Management tefan N M Ungureanu, PhD
Hedging an A/R using FX options
Boeing has an A/R of 10m GBP for 1 year
Boeing buys a put option on 10m GBP, X=$1.46/GBP,
Pr=$0.02/GBP ($200,000 for the option)
13.80
14.00
14.20
14.40
14.60
14.80
15.00
15.20
15.40
15.60
1.40 1.42 1.44 1.46 1.48 1.50 1.52 1.54
Spot rate in one year ($/GBP)
A
/
R
v
a
l
u
e
(
$
,
m
i
l
l
i
o
n
s
)
Unhedged
Hedging with a put
Floor price
MPI FX Risk Management tefan N M Ungureanu, PhD
Hedging using options
To hedge a foreign currency payable/liability buy
calls on the currency.
If the FC appreciates, your call option lets you buy
the currency at the exercise price of the call.
Options provide a ceiling price on the domestic
currency value of foreign exchange:
Ceiling price = Exercise price of call + Call premium
MPI FX Risk Management tefan N M Ungureanu, PhD
6.90
7.00
7.10
7.20
7.30
7.40
7.50
7.60
7.70
7.80
1.40 1.42 1.44 1.46 1.48 1.50 1.52 1.54
Spot rate in one year ($/GBP)
A
/
P
v
a
l
u
e
(
$
,
m
i
l
l
i
o
n
s
)
Hedging an A/P using FX options
Boeing has an A/P of 5m GBP for 1 year
Boeing buys a call option on 5m GBP, X=$1.46/GBP,
Pr=$0.025/GBP ($125,000 for the option)
Unhedged
Hedging with a call
Ceiling price
MPI FX Risk Management tefan N M Ungureanu, PhD
Hedging an A/R - Dayton Manufacturing
Dayton Manufacturing, US-based maker of gas
turbine equipment, sold in March a turbine generator
to Crown, a British firm, for 1,000,000. Payment
due three months later, in June.
The following information is available to the CFO of
Dayton:
Spot exchange rate: $1.7640/
3-month forward rate: $1.7540/
UK 3-month interest rates: 8.0% - 10.0%
US 3-month interest rates: 6.0% - 8%
MPI FX Risk Management tefan N M Ungureanu, PhD
Dayton Manufacturing
June put option; OTC market for 1,000,000: strike
price $1.7500 (nearly ATM); 1.5% premium paid at
current spot
June put option; OTC market for 1,000,000: strike
price $1.7100 (OTM); 1.0% premium paid at current
spot
Daytons foreign exchange advisory service forecasts
that the spot rate in 3 months will be $1.7600/
The minimum acceptable margin for the contract is at
a sale price of $1,700,000 the budget rate =
$1.7000/
MPI FX Risk Management tefan N M Ungureanu, PhD
Dayton Manufacturing
Four alternatives are available to Dayton:
1. Remain unhedged
2. Hedge in the forward market
3. Hedge in the money market
4. Hedge in the options market
MPI FX Risk Management tefan N M Ungureanu, PhD
Dayton Manufacturing
1. Unhedged position
Today Three months hence
Do nothing
Receive 1,000,000
Sell 1,000,000 spot and
receive $ at spot rate
existing then
MPI FX Risk Management tefan N M Ungureanu, PhD
Dayton Manufacturing
2. Forward Market Hedge
Three months hence
Sell 1,000,000 forward
@$1.7540/
Receive 1,000,000
Deliver 1,000,000 against
forward sale
Receive $1,754,000
Today
MPI FX Risk Management tefan N M Ungureanu, PhD
Dayton Manufacturing
3. Money market hedge
Today
Receive 1,000,000
Repay 975,610 loan plus
24,390 interest, for a total of
1,000,000
Receive 1,746,790 $
Three months hence
Borrow 975,610 @ 10% p.a.
Exchange 975,610 for $ @
$1.7640/
Receive $1,720,976 cash
Invest $1,720,976 @ 6% p.a.
MPI FX Risk Management tefan N M Ungureanu, PhD
Dayton Manufacturing
4. Options market hedge (ATM option illustrated)
Today Three months hence
Buy put option to sell @
$1.75/
Pay $26,460 for put option
Receive 1,000,000
Either deliver 1,000,000 against
put, receiving 1,750,000; or sell
1,000,000 spot if current spot rate
> $1.75/
MPI FX Risk Management tefan N M Ungureanu, PhD
Dayton Manufacturing
Put Option Strike Price ATM Option
$1.75/
OTM Option
$1.71/
Option cost $26,460 $17,640
Proceeds if exercised $1,750,000 $1,710,000
Minimum net proceeds $1,723,540 $1,692,360
Maximum net proceeds Unlimited Unlimited
MPI FX Risk Management tefan N M Ungureanu, PhD
1,68
1,7
1,72
1,74
1,76
1,78
1,8
1,82
1,84
1,68 1,69 1,7 1,71 1,72 1,73 1,74 1,75 1,76 1,77 1,78 1,79 1,8 1,81 1,82 1,83 1,84
Ending spot exchange rate ($/)
D
a
y
t
o
n
'
s
r
e
v
e
n
u
e
s
f
r
o
m
A
/
R
(
m
i
l
l
i
o
n
s
$
)
Dayton Manufacturing
Uncovered
Forward market hedge
Money market hedge
OTM put option hedge
ATM put option hedge
MPI FX Risk Management tefan N M Ungureanu, PhD
Factors influencing the hedging decision
The selection of the proper hedging instrument
depends on:
Firms willingness to take a directional view on the
movement of the FX rate
Firms risk tolerance
Hedging instruments availability
Frequency of exposures
Number of currencies for which exposures are detected
Degree of certainty associated to a particular exposure
MPI FX Risk Management tefan N M Ungureanu, PhD
What Risk Management Products do Firms Use?
Type of product Awareness Adoption
Forward contracts 100.0% 93.1%
Foreign currency swaps 98.8 52.6
Foreign currency futures 98.8 20.1
Exchange-traded currency options 96.4 17.3
Exchange-traded futures options 95.8 8.9
OTC currency options 93.5 48.8
Cylinder options 91.2 28.7
Synthetic forwards 88.0 22.0
Synthetic options 88.0 18.6
Participating forwards 83.6 15.8
Forward exchange agreements 81.7 14.8
Foreign currency warrants 77.7 4.2
Break forwards 65.2 4.9
Compound options 55.8 3.8
Look-back options 52.1 5.1
Average across products 84.4% 23.9%
MPI FX Risk Management tefan N M Ungureanu, PhD