B1-M6 Financial Risk Management 2

Question 1

what are the factors that influence exchange rates?

Answer 1

1. relative inflation rate
2. income levels
3. government controls
4. interest rate and capital flows: currency with higher IR attracts investments => demand increase => value increase

Question 2

what are the risk exposure categories?

Answer 2

1. transaction exposure: GL. net of AR (export; sell) and AP (import; buy). ex: if FC goes up => AR goes up (gain); AP goes up (loss)
2. economic exposure: potential PV of entity’s cash flows goes up or down due to change of exchange rate (appreciation and depreciation). domestic currency goes up => foreign currency goes down, and vice verses
3. translation exposure: foreign subs