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Foreign Exchange Risk Management – Theory versus Practice: The Case of Two UK Based Firms

My dissertation project for a Masters in International Business (Option International Finance) was about how multinational companies manage FX risk exposure and how this compares to theory.

Using two UK based firms as a case study, I found out that there were differences in management practices between these two companies on one side, as well as between practice and theory on FX risk management. Differences were found namely in the choice of the type of risk to be managed and hedging instruments. Consistent with theory, cash flow matching (natural hedging) and forward contracts were the most used hedging instruments. However in terms of risk exposure, transaction exposure was the most managed in practice whereas economic exposure was the most relevant in literature. While translation exposure was often not hedged in practice and this was in line with theory, one of the companies in my study was sometimes managing its translation exposure.

Finally, theory argues that firms should first use internal/natural hedging techniques and then, if necessary, pass to external hedging techniques. The main argument being that external hedging is costly.  Graduate - ResIn practice, the two UK based companies I used in my project followed this strategy as they do natural hedging whenever it is possible. However, firms rarely (if not never) fully hedge their FX risk exposure because it is expensive and according to them, it does not completely eliminate FX risk exposure.

 

 

 

“Now that I am ready to fully start a career, I would like to express my deep gratitude to my project supervisor Dr PEIYI YU and my award leader Ms DAPHNE LAING.

Special thanks and gratitude to Mr & Mrs Anoke, my very dear parents, for all their support!!!”

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February 28, 2009 Posted by | Articles In English, International Business, International Finance, MY DISSERTATION PROJECT | , , , , , , , , , , , , | 1 Comment