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FX Forward Contracts for Portfolio Management Applications

In: Derivatives Applications in Asset Management

Author

Listed:
  • Redouane Elkamhi

    (University of Toronto)

  • Jacky S. H. Lee

    (Total Portfolio Group at Healthcare of Ontario Pension Plan (HOOPP))

  • Marco Salerno

    (Abu Dhabi Investment Authority)

Abstract

This chapter explores the strategic use of FX forward contracts to manage currency risks in globally diversified institutional portfolios. The study provides theoretical and practical insights into managing FX exposure, showcasing scenarios where forward contracts stabilize returns effectively. The study begins with a simple illustration of a US-based portfolio manager hedging 50% of a portfolio’s euro exposure. Entering an FX forward contract, the portfolio manager locks in an exchange rate to mitigate potential losses from euro depreciation. This hedging mechanism demonstrates how portfolio managers can reduce currency risks, ensuring portfolio performance aligns with investment objectives. A real-world illustration analyzing an international equity portfolio exposed to various currencies is provided. The analysis reveals the impact of equity index value changes and FX rate fluctuations on portfolio performance. The effectiveness of FX hedging strategies is highlighted through detailed performance analysis. When currencies are hedged using FX forwards, portfolio losses due to FX rate fluctuations are significantly reduced. The study also examines basis risk, which arises from mismatches between the hedging instrument and the underlying exposure and interaction effects between equity and FX movements.

Suggested Citation

  • Redouane Elkamhi & Jacky S. H. Lee & Marco Salerno, 2025. "FX Forward Contracts for Portfolio Management Applications," Springer Books, in: Frank J. Fabozzi & Marielle de Jong (ed.), Derivatives Applications in Asset Management, chapter 0, pages 325-336, Springer.
    • Handle: RePEc:spr:sprchp:978-3-031-86354-7_20
    DOI: 10.1007/978-3-031-86354-7_20
    as

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