International Finance

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Presentation transcript:

International Finance Multiple Currency Transaction Exposure

Estimate Net CFs in Each Currency Example: This American company has exposure in four foreign currencies over the next quarter.

Weight the Dollar Cash Flows Pound 15 15/16 = .9375 Can. $ 8 8/16 = .5 S. Krona -15 -15/16 = -.9375 Peso 8 8/16 = .5 . 16 1.0 Note that there is an expected net cash inflow of $16 million. But what is its standard deviation?

Estimate Volatility (standard deviation) of XR Movements over the Quarter British Pound – 2.8% Canadian Dollar – 2.7% Swedish Krona – 3.2% Mexican Peso – 3.5%

Estimate the Correlations Between these Currencies over the Next Quarter Pound Canadian $ S. Krona M. Peso 1.0 .35 .83 .25 .57 .40 .20

Build a Variance/Covariance Matrix Pound Canadian $ S. Krona M. Peso 0.000784 0.0002646 0.00074368 0.000245 0.000729 0.00049248 0.000378 0.001024 0.000224 0.001225

Build a Wtd. Var/Cov Matrix Pound Canadian $ S. Krona M. Peso 0.000689063 0.000124031 -0.000653625 0.000114844 0.00018225 -0.00023085 0.0000945 0.0009 -0.000105 0.00030625

Determine the Portfolio Standard Deviation Variance = sum of cells in wtd. var/cov matrix = .00076536 Standard Deviation = Square Root of Variance = 2.7665%

Determine Possible Cash Flow Expected Value = $16 million Minus One S.D. = $15.557 million Minus Two S.D. = $15.115 million Plus One S.D. = $16.443 million Plus Two S.D. = $16.885 million Now decide if you want to hedge this risk