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Increasing Derivatives Market Activity in Emerging Markets and Exchange Rate Exposure

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Author Info
Uluc Aysun (University of Connecticut)
Melanie Guldi (Mount Holyoke College)

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Abstract

Understanding the effects of off-balance sheet transactions on interest and exchange rate exposures has become more important for emerging market countries that are experiencing remarkable growth in derivatives markets. Using firm level data, we report a significant fall in exposure over the past 10 years and relate this to higher derivatives market participation. Our methodology is composed of a three stage approach: First, we measure foreign exchange exposures using the Adler-Dumas (1984) model. Next, we follow an indirect approach to infer derivatives market participation at the firm level. Finally, we study the relationship between exchange rate exposure and derivatives market participation. Our results show that foreign exchange exposure is negatively related to derivatives market participation, and support the hedging explanation of the exchange rate exposure puzzle. This decline is especially salient in the financial sector, for bigger firms, and over longer time periods. Results are robust to using different exchange rates, a GARCH-SVAR approach to measure exchange rate exposure, and different return horizons.

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Paper provided by University of Connecticut, Department of Economics in its series Working papers with number 2008-06.

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Length: 44 pages
Date of creation: Mar 2008
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Handle: RePEc:uct:uconnp:2008-06

Note: We are grateful to Thomas Schneeweis and Raj Gupta at the CISDM of UMass and Esen Onur for allowing us to access the data used in this paper. We would like to thank Charles Dale and the participants of the 2007 WEAI and EEA conferences, and the Colloquium series at University of Connecticut, Stamford.
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Related research
Keywords: Exchange rate exposure derivatives emerging markets

Find related papers by JEL classification:
G15 - Financial Economics - - General Financial Markets - - - International Financial Markets
G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Capital and Ownership Structure
F31 - International Economics - - International Finance - - - Foreign Exchange

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