Managing in the global markets imply dealing with foreign currencies. There are

Question

Managing in the global markets imply dealing with foreign currencies. There are various types of currency arrangements as seen in this week’s material. To overcome currency risks, global managers have at their disposal 3 primary strategies: 1) invoicing in their own currencies, 2) currency hedging, 3) strategic hedging (basically spreading out activities in foreign countries with different currencies in order to lessen need to convert currencies and/or offset gains/losses of currencies). Please discuss the advantages/disadvantages of these strategies and your recommendation on how best to manage currency risks. Use currency examples.

Explanation / Answer

In the current scenario with global downturn, firms in international market often use several measures to cover the currency risk. Many of these measures are not comprehensive so pragmatic management of different kinds of practices is exigent. Some of these methods are:

Invoicing in local/native currency – this approach, has, by far, successful since it makes business more attractive and so it leads to business expands. This method may increase profits by providing advantage in sales price negotiations. This method increase your margins but there is a pre-requisite for its implementation. This method does not remove the forex risk completely. It merely passes the risk to the other party. Fluctuations in the currency rates may bring discrepancies in the product pricing and consumers will begin to expect a price reduction. This does not imply that such transfer of risk is a feasible option and should be ignored. Keep in the mind the vigil consumer, business partners and suppliers who have become increasing sophisticated in their transactions.

Currency and strategic hedging – This strategy focusses on minimizing foreign investment risk associated with foreign currency trading and to compensate for the fluctuations in the currency denominated in the investment. As it can be easily seen, this strategy reduces the risks and hence, the losses incurred to the investor. Volatility of the currency exchange rates often reduces the profits available to the investors. Hedging tools tends to lock the profits for investors. It allows the dealers to remain unaffected by the downturns. A negative side of this method is that it fails to provide the flexibility to the investors to quickly react to market changes. If risks are minimized, potential profits are also reduced. High cost and expenses might reduce profits.

Hedging is not suitable for small and new investors because it can be baffling and unprofitable for them. Inexperienced investors might have to bear losses when they are unable to follow the strategies correctly.

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