Unit 2: Part 1- Intro to Risk Management Flashcards
What is the FX market?
The FOREX (FX) market is a place where money denominated in one currency is bought and sold with money denominated in another currency
What does the FX market involve?
It involves international trade and capital transactions. FX markets facilitate the ability to transfer purchasing power between countries
What is the purchasing power?
Purchasing power is the amount of goods and services that can be purchased with a unit of currency.
What are motives for investing in foreign markets?
Motives for investing in foreign markets: economic conditions, exchange rate expectations & international diversification
What are motives for providing credit in foreign markets?
Motives for providing credit in foreign markets: high foreign interest rates, exchange rate expectations, international diversification & crises
What are motives for borrowing in foreign markets?
Motives for borrowing in foreign markets: exchange rate expectations & low interest rates
What are 2 ways in which exchange rates can be quoted?
Exchange rates can be quoted in different ways: spot market (delivery within 2 days) & forward transaction (to lock in exchange rate for future deliveries)
What does arbitage mean?
Arbitage means taking advantage of price differences in 2 or more markets (risk free profit) - when currency is mis-priced
What other types of currency are there?
Fin-tech & Cryto-currency
What are the 3 types of exchange rate exposure (foreign currency risk)?
Translation risk, economic risk & transaction risk
What is transaction risk?
Transaction risk: risk of an exchange rate changing between the transaction date & the subsequent settlement date
What is economic risk?
Economic risk is the difference in value of business due to unexpected changes in exchange rates
What is translation risk?
Translation risk is the exposure of an MNC’s consolidated financial statements to exchange rate movements.
What is interest rate risk?
Interest rate risk is the potential loss from unexpected changes in interest rates which can significantly alter a bank’s profitability & market value of equity. Firms need to borrow as part of their operations. Changes in interest rates create risks for MNCs.
