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What Lies Beneath: Foreign Exchange Rate Exposure, Hedging and Cash Flows

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  • Bartram, Söhnke M.

Abstract

This paper presents results from an in-depth analysis of the foreign exchange rate exposure of a large nonfinancial firm based on proprietary internal data including cash flows, derivatives and foreign currency debt, as well as external capital market data. While the operations of the multinational firm have significant exposure to foreign exchange rate risk due to foreign currency-based activities and international competition, corporate hedging mitigates this gross exposure. The analysis illustrates that the insignificance of foreign exchange rate exposures of comprehensive performance measures such as total cash flow can be explained by hedging at the firm level. Thus, the residual net exposure is economically and statistically small, even if the operating cash flows of the firm are significantly exposed to exchange rate risk. The results of the paper suggest that managers of nonfinancial firms with operations exposed to foreign exchange rate risk take savvy actions to reduce exposure to a level too low to allow its detection empirically.

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Bibliographic Info

Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 6661.

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Date of creation: 31 Jul 2007
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Handle: RePEc:pra:mprapa:6661

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Keywords: Foreign exchange rates; exposure; risk management; cash flow; derivatives; corporate finance;

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Citations

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Cited by:
  1. Bartram, Söhnke M. & Brown, Gregory W. & Minton, Bernadette, 2009. "Resolving the Exposure Puzzle: The Many Facets of Exchange Rate Exposure," MPRA Paper 14041, University Library of Munich, Germany.
  2. Aretz, Kevin & Bartram, Söhnke M. & Pope, Peter F., 2010. "Macroeconomic Risks and Characteristic-Based Factor Models," MPRA Paper 47344, University Library of Munich, Germany.
  3. Muller, Aline & Verschoor, Willem F.C., 2009. "The effect of exchange rate variability on US shareholder wealth," Journal of Banking & Finance, Elsevier, Elsevier, vol. 33(11), pages 1963-1972, November.
  4. Du, Ding & Hu, Ou, 2012. "Foreign exchange volatility and stock returns," Journal of International Financial Markets, Institutions and Money, Elsevier, Elsevier, vol. 22(5), pages 1202-1216.
  5. Chi Xie & Changqing Luo & Xiang Yu, 2011. "Financial distress prediction based on SVM and MDA methods: the case of Chinese listed companies," Quality & Quantity: International Journal of Methodology, Springer, Springer, vol. 45(3), pages 671-686, April.
  6. Söhnke M. Bartram & Natasha Burns & Jean Helwege, 2013. "Foreign Currency Exposure and Hedging: Evidence from Foreign Acquisitions," Quarterly Journal of Finance (QJF), World Scientific Publishing Co. Pte. Ltd., World Scientific Publishing Co. Pte. Ltd., vol. 3(02), pages 1350010-1-1.
  7. Don Bredin & Stuart Hyde, 2010. "Investigating Sources of Unanticipated Exposure in Industry Stock Returns," Working Papers, Geary Institute, University College Dublin 201001, Geary Institute, University College Dublin.
  8. Du, Ding & Hu, Ou, 2012. "Exchange rate risk in the US stock market," Journal of International Financial Markets, Institutions and Money, Elsevier, Elsevier, vol. 22(1), pages 137-150.
  9. Söhnke M. Bartram & Gordon M. Bodnar, 2007. "The exchange rate exposure puzzle," Managerial Finance, Emerald Group Publishing, Emerald Group Publishing, vol. 33(9), pages 642-666.
  10. Chang, Feng-Yi & Hsin, Chin-Wen & Shiah-Hou, Shin-Rong, 2013. "A re-examination of exposure to exchange rate risk: The impact of earnings management and currency derivative usage," Journal of Banking & Finance, Elsevier, Elsevier, vol. 37(8), pages 3243-3257.
  11. Ding Du & Pin Ng & Xiaobing Zhao, 2013. "Measuring currency exposure with quantile regression," Review of Quantitative Finance and Accounting, Springer, Springer, vol. 41(3), pages 549-566, October.
  12. Du, Ding, 2014. "Persistent exchange-rate movements and stock returns," Journal of International Financial Markets, Institutions and Money, Elsevier, Elsevier, vol. 28(C), pages 36-53.

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