If foreign currency exchange rates are highly positively correlated, how can a FI reduce its exchange rate risk exposure?
A)By taking net long positions in all currencies.
B)By taking net short positions in all currencies.
C)By taking opposing net short and net long positions in different currencies.
D)By maximizing net FX exposure in each currency, independently.
E)By minimizing net FX exposure in each currency, independently.

Question

Quizplus · Accepted Answer

If the exchange rates of all currencies are highly positively correlated, taking a net long or net short position in all currencies would not necessarily provide any effective risk reduction. The best approach would be to take opposing net short and net long positions in different currencies, which would provide some diversification and therefore reduce the overall foreign exchange risk exposure.

If Foreign Currency Exchange Rates Are Highly Positively Correlated, How