An exporter may, agree to give discount for early payment. This discount represents a
cost for the exporter. But by doing so, he avoids the exchange rate risk, diminishes credit
risk and receives immediate cash.
- Hedging Transactions Exposure
Basically, the strategy involves increasing hard currency (likely to appreciate) assets and
decreasing soft currency (likely to depreciate) assets, while simultaneously decreasing
hard currency liabilities and increasing soft currency liabilities. For example, if
depreciation is likely to take place, the basic hedging strategy would be as follows:
reduce the level of cash, decrease accounts receivable by tightening credit terms, increase
local currency borrowing, delay accounts payable, and sell the weak currency forward.
If depreciation is anticipated If appreciation is anticipated
- Sell local currency (LC) forward
- Reduce levels of local currency
cash and marketable securities - Reduce local currency receivables
- Delay collection of hard currency
receivables - Accelerate imports of hard currency
goods before depreciation of local
currency - Borrow locally
- Delay payments of local accounts
payable - Speed up remittance of dividend to
the parent company - Speed up payments of
intersubsidiary accounts payable - Delay collection of intersubsidiary
accounts receivable- Buy local currency forward
- Increase levels of local currency
cash and marketable securities - Relax local currency credit terms
- Speed up collection of soft currency
receivables - Reduce imports of soft currency
goods - Reduce local borrowing
- Speed up payment of account
payable - Delay remittance of dividend to the
parent company - Delay payments of intersubsidiary
accounts payable - Speed up collection of
intersubsidiary accounts receivable
The major techniques External techniques for covering exchange rate risk
- Covering risk in the forward market;
- Covering in the money market;
- Advances in foreign currency;
- Covering in financial futures market;
- Covering in the options market;
- Covering through currency swaps;
- Recourse to specialized organizations.