Question 1

The currency risk of an exporter can be reduced by:
A) hedging, using the foreign exchange futures.
B) transacting only in the currency of the exporter's own country.
C) buying a forward contract for the exporter's currency.
D) all of the given choices.

Accepted Answer

All of the given choices are viable options for reducing currency risk of an exporter. Hedging using foreign exchange futures can help to lock in a rate and protect against currency fluctuations. Transacting only in the currency of the exporter's own country eliminates the need for currency conversion, hence mitigates currency risk. Buying a forward contract for the exporter's currency enables the exporter to lock in a predetermined exchange rate for future transactions.

Question 2

If a company takes out a forward exchange contract,which of the following is correct?
A) At the maturity date, the company can pay either the forward rate that was contracted or the then-current rate.
B) Taking out a forward exchange contract is always cheaper than waiting to pay spot rates.
C) Paying the spot price is safer than taking out a forward exchange cover.
D) The company's cost is locked in from the beginning of the contract, regardless of market changes.

Accepted Answer

When a company takes out a forward exchange contract, the company's cost is locked in from the beginning of the contract, regardless of market changes. This provides certainty for the company in terms of their future costs and can be helpful in managing risk. The other options are not correct - A is incorrect as the company is obliged to pay the contracted forward rate at the maturity date, regardless of the then-current rate; B is incorrect as it depends on market conditions whether a forward exchange contract is cheaper or more expensive than waiting to pay spot rates; and C is incorrect as paying the spot price exposes the company to exchange rate risk, whereas taking out a forward exchange cover can reduce this risk.

Question 3

A board of directors is concerned about the variability of the company's various foreign currency exposures.The company treasurer prepares a report showing the standard deviations for a range of currencies over the past decade.Which of the following statements is correct?
A) Standard deviation does not provide an accurate measure of the future probability of percentage exchange rate changes.
B) Use of ten-year data smooths out periodic fluctuations, to give a more reliable future indication of exposure.
C) Exposures in currencies that have a low standard deviation against the AUD involve greater foreign exchange risk.
D) Different patterns of future currency movements are reflected in the historical data used in calculating standard deviations.

Accepted Answer

Standard deviation is a measure of past volatility and does not necessarily indicate future probability of percentage exchange rate changes.

Question 4

An Australian company that is exposed to FX risk as the result of having a USD foreign currency payable due in 3 months can enter into:
A) a 3 month forward exchange contract to sell USD forward.
B) a 3 month forward exchange contract to sell AUD forward.
C) a 3 month futures contract to sell USD.
D) a 3 month currency swap to sell USD and buy AUD.

Accepted Answer

The company needs to buy USD in the future to settle its payable, so it should enter into a forward contract to sell AUD (its local currency) forward to lock in the exchange rate for purchasing USD.

Question 5

All of the following are market-based hedging techniques for FX,except:
A) futures contracts.
B) options on foreign currency.
C) forward exchange contracts.
D) currency swaps.

Accepted Answer

The answer of All of the following are market-based hedging...

Question 6

A company decides to hedge a foreign exchange risk associated with a USD 1 000 000 receivable by carrying out a money market hedge.Which of the following statements in relation to the USD receivable money market hedge is correct?
A) Interest rate calculations will need to recognise US convention differences.
B) The company will borrow sufficient AUD today and spot convert into USD.
C) USD will be invested in the US money markets for the period of cover.
D) All of the given choices.

Accepted Answer

The answer of A company decides to hedge a foreign...

Question 7

Market-based hedging techniques for FX include:
A) futures contracts.
B) options on foreign currency.
C) currency swaps.
D) all of the given choices.

Accepted Answer

All three given choices are market-based hedging techniques for FX. Futures contracts and options on foreign currency are both derivative instruments that traders can use to mitigate their FX risk. Currency swaps, on the other hand, are agreements between two parties to exchange currencies at a specified rate on a specified date in the future. By using a currency swap, traders can effectively lock in an exchange rate and reduce their exposure to currency risk. Therefore, all three options are viable choices for market-based hedging techniques for FX.

Question 8

A US company has an AUD 1 million receivable in two months.How can the US company hedge the foreign currency receivable? It could:
A) buy AUD in the spot market.
B) sell AUD in the forward market.
C) sell USD in the spot market.
D) buy USD in the forward market.

Accepted Answer

Selling AUD in the forward market allows the US company to lock in the exchange rate and protect against any potential currency fluctuations over the two-month period until the receivable is due. Buying AUD in the spot market or selling USD in the spot market would not provide the same level of protection, while buying USD in the forward market would not directly hedge the AUD receivable.

Question 9

Consider these five statements:
i.If an Australian-based company has a USD 1 million payable on 1 July next year and a USD 1 million receivable due on 1 August,the company has a perfect natural hedge.
ii.An Australian exporter with a transaction denominated in Singapore dollars (SGD)is exposed to downside risk if the AUD appreciates.
iii.An exposure in a currency with a high standard deviation against the AUD entails a greater degree of risk than does a similarly sized exposure in a currency that has a relatively low standard deviation.
iv.If an Australian-based company has net exposures in a range of currencies,each exposure should be not hedged because each of them involves the same degree of risk.
v.If an Australian company imports components from Italy,and at the same time exports goods to Germany,with both contracts under a euro-denominated contract and dated 31 July next year,the company has no FX exposure.
How many of these statements are true and how many are false?
A) 4 statements are true and 1 is false
B) 3 statements are true and 2 are false
C) 2 statements are true and 3 are false
D) 1 statement is true and 4 are false

Accepted Answer

Statement i is false because the company is still exposed to the risk of exchange rate fluctuations between the dollar and the Australian dollar during the one-month period between the payable and receivable dates. 
Statement ii is true because an appreciation of the AUD would make the SGD-denominated transaction less valuable in AUD terms. 
Statement iii is true because currencies with higher standard deviations are more volatile and therefore carry more risk. 
Statement iv is false because each exposure may have different levels of risk due to factors such as volatility, timing, and the size of the exposure. 
Statement v is true because the company's euro-denominated imports and exports cancel each other out, resulting in no net FX exposure.

Question 10

An Australian exporter has despatched a consignment to the USA and expects to receive payment of USD 250 000 in three months' time.The company wishes to hedge part of its exposure to the USD,and enters into a forward exchange contract with its bank,based on the amount USD 125 000.Based on today's data (below),what amount in AUD will the company receive in three months' time?
Spot rate:
AUD/USD 0.7345-50
Three-month forward rate:
AUD/USD 0.7430-35
A) AUD 340 136.05
B) AUD 340 367.60
C) AUD 336 473.76
D) AUD 336 247.48

Accepted Answer

The company will receive AUD 336 247.48 in three months' time. This is calculated by dividing the hedged amount (USD 125,000) by the three-month forward rate (0.7435, using the rate at which the bank will buy USD), resulting in AUD 168 123.74. The unhedged amount (USD 125,000) is converted at the spot rate (0.7350, using the rate at which the bank will buy USD), resulting in AUD 168 123.74. The total received is the sum of these two amounts.

Question 11

A British company has a USD 1 million payable in two months.How can the British company hedge the foreign currency payable?
A) Buy pounds in the forward market
B) Sell pounds in the spot market
C) Sell US dollars in the spot market
D) Buy US dollars in the forward market

Accepted Answer

The British company can hedge their foreign currency payable by buying US dollars in the forward market. This will ensure that they have the necessary funds to pay their obligation in two months at a fixed exchange rate, protecting them from any adverse currency fluctuations. Buying pounds in the forward market (option A) or selling pounds in the spot market (option B) would not protect the company from fluctuations in the US dollar exchange rate, which is what they need to hedge against. Selling US dollars in the spot market (option C) would not provide the company with the necessary funds to pay their obligation in two months.

Question 12

Consider the following statements:
i.'Transaction exposure' refers to the risk that in the long run a company's net present value may be affected by future changes in the foreign exchange rate.
ii.Foreign exchange 'economic' risk exposure is a measure of the effect that a change in the exchange rate will have on the value of a company's worth.
iii.Foreign exchange risk implies that every change in the exchange rate will have detrimental effects on the home currency value of a company's foreign currency assets,liabilities and transactions.
iv.A company's board of directors is responsible for establishing policy in relation to the measurement and management of FX risk exposures within the company.
v.If an Australian-based company has a USD 1 million payable and a USD 1 million receivable,both due on 1 July next year,it is not exposed to FX risk.
Which of the following are correct?
A) i, ii, iii and iv are true
B) i, ii, iv and v are true
C) i, iii, and iv are true
D) only ii and v are true

Accepted Answer

Statement ii is correct as it defines economic risk exposure accurately. Statement v is correct because the payable and receivable in the same currency offset each other, eliminating FX risk.

Question 13

An Australian company that is exposed to FX risk as the result of having a USD foreign currency receivable due in 3 months can enter into:
A) a 3 month forward exchange contract to sell USD forward.
B) a forward exchange contract to sell AUD forward.
C) a 3 month futures contract to sell USD.
D) a 3 month currency swap to sell USD and buy AUD.

Accepted Answer

The best choice for the Australian company with a USD foreign currency receivable due in 3 months is to enter into a 3 month forward exchange contract to sell USD forward. This will help the company lock in the exchange rate at which they will sell USD and receive AUD in three months, reducing the FX risk they are exposed to.

Question 14

A system of transactions involving borrowing in one currency and lending in another in order to construct a pair of future transactions in the two currencies similar to a forward exchange is a/an:
A) balance sheet hedge.
B) internal hedge.
C) money market hedge.
D) All of the given choices.

Accepted Answer

The system of transactions described is a money market hedge, which involves borrowing in one currency and lending in another to create a synthetic forward exchange. Balance sheet hedges involve changes in assets and liabilities to protect against currency risk, while internal hedges involve a company's departments hedging against each other. Both of these types of hedges are different from the money market hedge described in the question. Therefore, D is not the correct answer.

Question 15

The over-the-counter market-based FX instrument that locks in an exchange rate on a currency pair that will apply at specified future date is:
A) futures contracts.
B) options on foreign currency.
C) forward exchange contracts.
D) currency swaps.

Accepted Answer

The instrument described in the question is a forward exchange contract, which is an OTC agreement to buy or sell a certain amount of currency for a fixed price on a future date. Futures contracts (A) are similar to forward contracts but are traded on organized exchanges. Options (B) give the buyer the right but not the obligation to buy or sell a currency at a fixed price, while currency swaps (D) involve exchanging principal and interest payments on a loan in one currency for those in another currency.

Question 16

The purpose of hedging by a company is to:
A) maximise cash flows and profits.
B) minimise the variability of expected cash flows.
C) decrease the uncertainty of reported cash flows.
D) increase the expected cash flows.

Accepted Answer

The purpose of hedging by a company is to minimise the variability of expected cash flows. This is done by using financial instruments to mitigate the risks associated with fluctuations in prices, exchange rates, or interest rates. By doing so, the company can reduce its exposure to market risks and ensure a more predictable and stable cash flow. While hedging may indirectly help in achieving higher profits or expected cash flows, those are not the primary purposes of hedging.

Question 17

An Australian company that imports goods from a German supplier on credit can protect itself against transaction exposure risk by:
A) entering into a contract in the forward exchange market.
B) borrowing Australian dollars and investing in the German money market.
C) borrowing euros and investing in the Australian money market.
D) entering into a contract in the forward exchange market AND/OR borrowing Australian dollars and investing in the German money market.

Accepted Answer

Entering into a contract in the forward exchange market can protect the company from potential losses due to changes in currency exchange rates. By locking in a specific exchange rate at a future date, the company can ensure that the cost of the imported goods remains consistent.

Borrowing Australian dollars and investing in the German money market can also provide protection against transaction exposure risk. By earning interest on the borrowed funds, the company can offset any potential losses due to changes in exchange rates. However, this option may also involve some degree of risk, as changes in interest rates and market fluctuations can impact the overall investment return.

Therefore, the best choice would be to consider a combination of both options - entering into a contract in the forward exchange market and borrowing funds to invest in the German money market. This approach can provide a more comprehensive risk management strategy that can help protect the company's financial interests while balancing potential risks and rewards.

Question 18

The use of hedging by a company should:
A) increase the variability of reported cash flows.
B) increase the variability of expected cash flows.
C) decrease the variability of reported cash flows.
D) decrease the variability of expected cash flows.

Accepted Answer

The use of hedging is meant to reduce the variability of expected cash flows by minimizing the impact of unexpected fluctuations in exchange rates or commodity prices. By reducing the uncertainty of expected cash flows, companies can better plan and allocate resources on a more stable basis, allowing for better decision-making and more accurate forecasting.

Question 19

The general principle of exchange-rate hedging is to:
A) deposit the foreign funds in the local money market until needed.
B) transact in the foreign money market where the obligation arises.
C) enter into an offsetting obligation in the same foreign currency.
D) enter into offsetting obligations in the futures and forwards markets.

Accepted Answer

The general principle of exchange-rate hedging is to enter into an offsetting obligation in the same foreign currency to mitigate the risk of currency fluctuations.

Question 20

Consider these five statements:
i.If an Australian-based company has a USD 1 million payable on 1 July next year and a USD 1 million receivable due on 1 August,the company has a perfect natural hedge.
ii.An Australian exporter with a transaction denominated in Singapore dollars (SGD)is exposed to downside risk if the AUD appreciates.
iii.An exposure in a currency with a high standard deviation against the AUD entails a greater degree of risk than does a similarly sized exposure in a currency that has a relatively low standard deviation.
iv.If an Australian-based company has net exposures in a range of currencies,each exposure should be not hedged because each of them involves the same degree of risk.
v.If an Australian company imports components from Italy,and at the same time exports goods to Germany,with both contracts under a euro-denominated contract and dated 31 July next year,the company has no FX exposure.
Which of the following are correct?
A) i, ii, iii and iv are true
B) i, ii, iv and v are true
C) ii, iii, and iv are true
D) ii, iii and v are true

Accepted Answer

Statement i is not entirely true as the company still faces some basis risk, but it can be considered a near-perfect hedge. 
Statement ii is true as an Australian exporter with a transaction denominated in SGD is exposed to downside risk if the AUD appreciates. 
Statement iii is true as a currency with a high standard deviation against the AUD entails greater risk than one with a relatively low standard deviation. 
Statement iv is not true as each currency exposure carries its own unique set of risks and should be evaluated and hedged separately. 
Statement v is true as both contracts are euro-denominated, so there is no currency exposure.

Quiz 17: Foreign Exchange: Risk Identification and Management

The currency risk of an exporter can be reduced by:

If a company takes out a forward exchange contract,which of the following is correct?

A board of directors is concerned about the variability of the company's various foreign currency exposures.The company treasurer prepares a report showing the standard deviations for a range of currencies over the past decade.Which of the following statements is correct?

An Australian company that is exposed to FX risk as the result of having a USD foreign currency payable due in 3 months can enter into:

All of the following are market-based hedging techniques for FX,except:

A company decides to hedge a foreign exchange risk associated with a USD 1 000 000 receivable by carrying out a money market hedge.Which of the following statements in relation to the USD receivable money market hedge is correct?

Market-based hedging techniques for FX include:

A US company has an AUD 1 million receivable in two months.How can the US company hedge the foreign currency receivable? It could:

A British company has a USD 1 million payable in two months.How can the British company hedge the foreign currency payable?

An Australian company that is exposed to FX risk as the result of having a USD foreign currency receivable due in 3 months can enter into:

A system of transactions involving borrowing in one currency and lending in another in order to construct a pair of future transactions in the two currencies similar to a forward exchange is a/an:

The over-the-counter market-based FX instrument that locks in an exchange rate on a currency pair that will apply at specified future date is:

The purpose of hedging by a company is to:

An Australian company that imports goods from a German supplier on credit can protect itself against transaction exposure risk by:

The use of hedging by a company should:

The general principle of exchange-rate hedging is to: