International Money and Finance - Brewin Dolphin - Essay Example

Brewin Dolphin: Risk analysis Risk management Brewin Dolphin holds a prominent position among various renowned financial planning and investment management companies in the United Kingdom (Brewin Dolphin, 2013). Being an investment firm, the company requires operating in multiple currencies and as a result it is susceptible to certain systematic and unsystematic risks such as market risk, political risk and country risk. Market risk primarily comprises interest risk and foreign exchange risk (Clare and Gang, 2010). It was indicated by authors such as Clare and Gang (2010) and Busse and Hefeker (2007) that these risks have considerable amount of unfavourable impact on firm’s current and future performance. Exchange rate risk Brewin Dolphin has functions in the UK, Republic of Ireland and Channel Island. For such transnational companies, foreign exchange exposure can be categorised as translational and transactional risks. Transactional risk arises when a firm faces possibility of monetary loss from its business transactions that has been undertaken in foreign currencies. The company is an international investment firm and consequently is involved in deals that require continuous purchase and selling of currencies (Kelley, 2001). On the other hand, translational risk exposure arises when firms invest in foreign assets and record it in firm’s balance sheet. For minimisation of translational exposure, firms should make minimum investment in foreign assets. However, these risks are countered by multinational companies by purchasing different swaps, options, futures and forward contracts (Erb, Harvey and Viskanta, 1996). The company primarily operates in the economic environment of the UK; hence, its functional currency is pound sterling for all kind of financial reporting. However, one positive point in this regard is that the company does not have operation in multiple bases and as a result, the exchange rate exposure for the company is relatively limited. In other words, degree of currency imbalance is less for the firm (Brewin dolphin, 2013). In this regard, management of foreign exchange exposure in the UK depends considerably on restrictions on net open position of working balances of firms. Minimisation of foreign exposure is a national concern and the Bank of England has made it certain for multinational firms that the net amount of foreign currency or currency that a firm transact in should be at least 10 percent higher than the firm’s own capital (Bank of England, 2011). It was determined that the company comply with the foreign exchange policies that have been established by the Bank of England. UK can be considered as a hub of numerous multinational firms and most of these firm hedge potential market risks by means of derivative purchase (Bank of England, 2011). The process of hedging acts as a shield for the firms against market fluctuations and has the flexibility of being implemented for any kind of tangible and intangible commodity. It has been established by Li and Resnick (2003) that the UK financial market is highly lucrative presenting consistent opportunities for firms and investors to yield earnings. However, the authors also specified that with growing scope of profitability, risk also increases. As a result, investors are vulnerable due to variation and fluctuation in exchange rate (Li and Resnick, 2003). The annual report of the company suggests that it does not purchase derivative for risk minimisation even though it is a plausible choice considering positive benefits of swaps, options, forwards and futures in risk management. Brewin Dolphin is vulnerable to interest rate risk because clients keep deposits with the firm in multiple currencies as a result this risk is hedged by the firm by means of floating or variable interest rate (Brewin Dolphin, 2013). In addition, Bond funds (pound sterling) are traded by the company so that its investors are delivered return that is higher than the UK gilt market. Investment in bond fund can be considered as an appropriate example of hedging because bond investment minimises risk while increasing profit. The firm reinvest the bond fund in foreign countries for earning high interest thereof. Another instrument was recognised that the firm uses for managing currency exposure, namely, Discretionary Management Service (Brewin Dolphin, 2014). According to the annual report of the firm (Brewin Dolphin, 2008), foreign currency exposure of the firm was gauged by the riding the reject rule (RRR) method. The RRR method is exclusive in nature and is only used for calculating exchange rate risk associated with investment portfolio. In this method, the total net openings of the firm that is denominated in foreign currencies is converted in sterling pound since it is firm’s functional currency at the prevailing spot rates (Brewin Dolphin, 2008). Since the company acts as an agency stockbroker and investment manager for clients located in the UK and Republic of Ireland, the risk exposure is managed by matching trading policy (Brewin Dolphin, 2014). Country and political risk Allayannis and Ofek (2001) explained that country risk is a relatively broad concept and consist of different kinds of risk that any multinational firm encounters as and when it initiates its operations in a foreign country. Country risk includes economic and political risks. The origin of political risk is related to nation-wide political instability and regulatory changes that may or may not affect business activities of a firm operating in the country. Brewin Dolphin primarily operates in the UK and Republic of Ireland and as a result will be vulnerable to political pressure and operational issues in these nations. Besides economic and political risks, market risk is also incorporated in country risk because market situation is influenced by policies and governing factors and is one of the systematic risks that are generally not in control of a firm (Erb, Harvey and Viskanta, 1996). Brewin Dolphin ensures that it complies with all the existing regulations in its country of operation. The general election of the UK was determined to be one of the greatest political challenges to the company as changes in political power distribution will affect the firm’s operations significantly. As a result, the company should be concerned about tackling and managing the situation. Another major issue that was recognised in context of the company is voting in European Union. Republic of Ireland is an important member of the EU and its political environment will be affected if the Labour Party gets elected. The win will result in increased pressure on insurance and financial institutions as a counter to the reform structure (Financial Times, 2014; A.M. Best Company Inc., 2014). The regulatory framework of the UK Government significantly influences the industrial policies, market liberalisation and corporate taxes of the country and thereby affects country based operations of the company. Currently, the firm has not undertaken any kind of donation policy with respect to the political parties; however, in case of adverse situation in near future, the company may adopt donation measures for maintaining favourable relationship with the government of the UK (Hirsa and Neftci, 2013; DiPiazza and Bremmer, 2006). Political legal activities such as lobbying are encouraged by the firm along with implementation of law enforcement and active participation in various government activities so that it is able to influence government policies in its favour. It was gathered that Brewin dolphin is planning to invest a sum of £5000 to various political parties in the nation. Correspondingly, one of the subsidiaries of the parent firm is planning to make a donation of £22,000 to various political parties (Brewin Dolphin, 2013). Brewin Dolphin not only faces political risk in the UK but also in the Republic of Ireland. The country is a self-governing province and a part of the EU and correspondingly has its own regulations. However, it was determined that the political risk in the country is relatively low which can be mitigated by Brewin Dolphin by means of contract between the firm and government. Overall, it can be suggested that the firm is significantly affected by actions and legal measures adopted by governments of both the nations. Two factors were ascertained that influence the political risk of a country significantly. The first notion is that a country should have sufficient capabilities to prevent external ambiguities from affecting its internal productivity while the second one suggests that the productivity of an economy should be continuously evaluated with that of other countries so that underlying risks are recognised and policies are developed for creating a stronger economy. In this regard, it was gathered that the government policies in the UK are considerably weak owing to increasing political instability in the country (Jensen, 2008). Reference list A.M. Best Company Inc., 2014. Country Risk Report- Ireland. [online] Available at: [Accessed 17 December 2014]. Allayannis, G. and Ofek, E., 2001. Exchange rate exposure, hedging, and the use of foreign currency derivatives. Journal of international money and finance, 20(2), pp. 273-296. Bank of England, 2011. A review of the work of the London Foreign Exchange Joint Standing Committee in 2010. Bank of England Quarterly Bulletin, 51(2), pp.158–62. Brewin Dolphin, 2014. Annual Reports. [online] Available at: [Accessed 17 December 2014]. Brewin Dolphin, 2008. Brewin Dolphin Limited and Brewin Dolphin Holdings PLC: Pillar 3 Disclosures. [pdf] Brewin Dolphin Holdings PLC. Available at: [Accessed 17 December 2014]. Brewin Dolphin, 2013. Annual Report and Accounts 2013. [pdf] Brewin Dolphin. Available at: [Accessed 17 December 2014]. Clare, G. and Gang, I. N., 2010. Exchange rate and political risks, again. Emerging Markets Finance and Trade, 46(3), pp. 46-58. DiPiazza, S.A. and Bremmer, I., 2006. Integrating political risk into enterprise risk management. [pdf] PWC. Available at: [Accessed 17 December 2014]. Erb, C. B., Harvey, C. R. and Viskanta, T. E., 1996. Political risk, economic risk, and financial risk. Financial Analysts Journal, pp. 29-46. Financial Times, 2014. Brewin Dolphin Holdings PLC. [online] Available at: [Accessed 17 December 2014]. Hirsa, A. and Neftci, S. N., 2013. An introduction to the mathematics of financial derivatives. New York: Academic Press. Jensen, N., 2008. Political risk, democratic institutions, and foreign direct investment. The Journal of Politics, 70(04), pp. 1040-1052. Kelley, M. P., 2001. Foreign Currency Risk: Minimizing Transaction Exposure. [pdf]. International Law Section. Available at: [Accessed 17 December 2014]. Li, Q. and Resnick, A., 2003. Reversal of fortunes: Democratic institutions and foreign direct investment inflows to developing countries. International organization, 57(01), pp. 175-211. Read More