Shared Flashcard Set

Details

International Finance
Foreign exchange and market forces that affect international firms
13
Business
Post-Graduate
02/17/2010

Additional Business Flashcards

 


 

Cards

Term
What would shift demand curve for foreign currency to the right?
Definition

Higher inflation in domestic currency

Lower interest rates in domestic currency

Domestic government purchases foreign currency

Term
What would shift the supply curve for foreign currency to the right?
Definition

Higher inflation rate in foreign currency

Lower interest rates in foreign currency

Foreign government selling local currency

Term
Forward Exchange Premium
Definition

Forward quoted in points.  One point is equal to .01%.

 

Premium = [ (n-day forward rate - spot) / spot] x [360/n]

Term
Purchasing Power Parity
Definition

The spot rate for the currency of a country with a higher inflation than its trading partner will depreciate in the long run.

 

Higher inflation = weakening currency

Lower inflation = strengthening currency

Term
Fisher Effect
Definition

Higher inflation causes a higher nominal rate.

 

Nominal rate = real rate + inflation

and

the real rate is constant

 

Nominal rates differ from country to country because of differences in inflation rates

Term
International Fisher Effect
Definition

Long run

The spot rate for a currency with higher interest rates will depreciate against a currency with lower interest rates in the long run.

 

but

 

Short run

The spot rate for the currency with higher interest rates will appreciate in the short run.

Term
Interest Rate Parity
Definition
The forward rate for a currency with higher interest rates will fall, resulting in a forward discount.
Term
What are the three types of FX exposure?
Definition

Transaction

Translation / Accounting

Operating / Economic

Term
What is the exposure of an open A/R denominated in foreign currency?
Definition

If foreign currency weakens, the A/R falls in local currency value.

 

If foreign currency strengthens, the A/R rises.

 

 

Term

If a UK firm sells goods to Belgian buyer for €2.0M and the current exchange rate is €1.5 / £, what happens if:

 

exchange rate goes to €1.6 / £

 

exchange rates goes to €1.4 / £

Definition

€1.6 / £

The Euro has weakened, i.e., it takes more Euros to buy one pound.

 

value of the A/R drops from £1.33 to £1.25

 

€1.4 / £

The Euro was stengthened

 

value of the A/R rises from £1.33 to £1.43

Term
What type of option (call or put) do you purchase to hedge against open A/R position?
Definition
Buy a put option on the foreign currency.  It will allow you to sell the foreign currency at the time in the future when the A/R is paid.
Term
How would you use a money market hedge for an open A/R position?
Definition

Now

Borrow the foreign currency (PV based on foreign borrowing rates that would equal FV equal to receivable)

 

Exchange FX for local dollars

 

Future

Receive foreign currency from A/R payment

Repay foreign currency loan

Term
How would you use a money market hedge for an open A/P position?
Definition

Today

Borrow local currency (PV of future payable amount using borrowing rates as discount factor)

 

Exchange home currency at spot

 

Invest foreign currency

 

Future

Use investment to cover foreign payable

Repay home currency loan

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