123 School Work

Global Financing and Exchange Rate Mechanisms

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  The globalization of goods and capital markets means that an increasing number of firms have to make decisions about currency hedging for their foreign exchange exposure. This need is aggravated by extremely volatile foreign exchange markets. There is a large number of derivative securities, including forward and options contracts, which can be used to construct a hedging strategy. How do these instruments interact? And what is the optimal hedging policy? This paper should provide answers to these questions in an economic model of downside risk.
  Focus is directed toward the analysis on models of optimal hedging in the presence of downside risk. This is for two reasons; first, industry surveys indicate that in designing their hedging policies Chief Financial Officer’s(CFO) seek the selective elimination of risks, instead of the elimination of all risks as dictated by the variance-minimizing framework. In fact, Stulz (1996) argues that this should be the “goal of corporate risk management—namely, the elimination of costly lower-tail outcomes” (p. 8)...