Jun 3, 2013
Edward Ben Douglas
Global Financing and Exchange Rate Mechanisms
Currency Hedging As business continues to expand globally, organizations are finding it necessary to pay close attention to the foreign exchange markets. Companies must follow the foreign exchange market more closely and in turn develop appropriate hedging strategies to protect their interests. Exchange rate risk is the unexpected exchange rate that may cause an organization to lose or gain income. Currency hedging is a method of minimizing the exchange financial rate risk within an international organization. Global companies involved in operations should have a solid understanding of the financial risks that the company could go through prior to starting its venture.
Currency hedging is “a particular hedging strategy used to reduce risks in the foreign exchange market which are used as in any hedging situation, where one security would be offset by another security, such as holding a short and long position of the same security at the same time, (Investor Words, 2009).”
It is impossible to predict how much the currency will be worth on the exact day the company will be converting; with hedging, the uncertainly is gone. When companies decide to expand their business into growing globally the company will have to deal with many new issues that would not have affected them had they continued doing business locally. The exchange rate is a very important factor when doing international business and must be continually monitored. Any changes in the exchange rate can affect the company globally.
A significant growth in number of banks as well as business websites that offer currency hedging, regardless of the company size, has been reported. Before the main idea used to avoid the risk of currency fluctuation was to do all international business transactions in U.S dollars.
Contracts of labor are ways of converting currency from one country to another or to make payments in a foreign currency. Currency can be bought at today's exchange rate, and in most cases, the end settlement occurs in two days. Forward transactions of labor are very popular especially those that get into currency hedging. Forward transactions allow the company to buy or sell to another currency at a fixed rate at specific future dates. This essentially locks in the exchange rate for a future transaction. In daily pay-monetary societies, the most logical way of managing the community needs is by distributing goods by bartering among the members according to the need and surplus production. The local trading strategy can be an excellent system with few drawbacks. “There are ways a company can protect itself from these risks, forward exchange rates and currency swaps (McGraw Hill, 2009).” One solution that has been proven is the use of bartering or engaging in countertrade. Countertrade is basically the system of trade, including bartering, when goods or services are accepted in lieu of payment. This helps to avoid or minimize the purchase of goods or services. Reasons for choosing countertrade are that it will fall primarily into the financial sector in countries that cannot pay in hard currency to complete the transaction.
According to the text International Business: Competing in the Global Marketplace, “a currency swap is the simultaneous purchase and sale of a given amount of foreign exchange for two different value dates (McGraw Hill, 2009).” Currency swap is simultaneous to the purchase and sale of a given amount of foreign exchange with two different value dates. An example is when a global company buys products and materials, such as cotton and fabrics from Peru, and then sends them to India or Asia to manufacture the goods. These goods are cut and sewn and when ready they are sent to destinations in other areas. In order to conduct business in this manner corporations have…