Global Finance 361may exist due to offsetting balances that result from ordinary business transac-
tions with no special arrangements being required. Several hedges that appear
to be of this nature were presented in Exhibit 12.2, for example, Adobe Sys-
tems and Armstrong World Industries. Two other examples that appear to be
totally natural are the cases of Lyle Shipping and Australian mining companies.
Lyle Shipping, a Scottish firm, had borrowings in the U.S. dollar. An in-
crease in the value of the dollar would increase the pounds required to repay
Lyle’s dollar debt and result in a transaction loss. However, because Lyle’s
ships were chartered out at fixed rates in U.S. dollars, there would be an off-
setting increase in the pound value of future lease receipts—a transaction
gain.^12 A similar natural hedge is generally held to exist for Australian mining
companies whose product is priced in U.S. dollars. Should the U.S. dollar de-
preciate, the exposure to shrinkage in the Australian dollar value of U.S. re-
ceipts (asset exposure) is offset by similar shrinkage in the Australian dollar
value of their U.S. dollar debt (liability exposure).^13
Fashionhouse would probably find it difficult to duplicate the hedging
techniques used above by California First and Federal Express. Circumstances
giving rise to a natural hedge, as in the case of Lyle Shipping, may not exist. It
might have some capacity to hedge by applying the method ofleading and lag-
ging.This method involves matching the cash f lows associated with foreign-
currency payables and receivables by speeding up or slowing down their
payment or receipt. Moreover, once Fashionhouse has operations in Denmark,
it may be able to create at least a partial hedge of its asset exposure by funding
operations with Danish krone debt. If natural hedging opportunities are not
available, then Fashionhouse has the full range of both exchange-traded and
privately negotiated currency derivatives that it can use as a hedging instru-
ment to hedge currency risks.
The hedging requirements of the European operations of Fashionhouse
should be reduced by the introduction of the Euro. Even though Denmark is
not one of the original 11 members of the European Monetary Union (EMU),
its European exposure with the 11 countries will be reduced to a single cur-
rency, the Euro.
Hedging with Foreign-Currency Derivatives
Foreign-currency derivatives are financial instruments that derive their value
from an underlying foreign-currency exchange rate. Some of the more common
currency derivatives include forward contractsto buy or sell currencies in the
future at fixed exchange rates, foreign-currency swaps,foreign-currency fu-
tures,and options.The forward contracts and over-the-counter options have
the advantage of making it possible to tailor hedges to meet individual require-
ments in terms of amounts and dates. The exchange-traded futures and options
have liquidity and a ready market, but a limited number of dates and contract
sizes. Examples of the use of both types of instruments, privately negotiated
and exchange traded, are discussed next.