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Finance & Accounting
Pages 7 (1757 words)
Hedging an Equity Portfolio Insert Name Insert Grade Course Insert Tutor’s Name Insert Date A1. Derivatives traded on exchange markets that may include currency futures and options and swaps are usually limited. Moreover, the foreign market activities have a vulnerability of being highly hindered by the presence of exchange controls and other regulations…
A good example is that of two companies trading on different markets at international level. The company with an obligation to take a long position may opt to protect its currency using a stronger foreign one also referred to as a currency hedge. This is because the derivative instruments on such currencies may be nonexistent. However, cross hedging capabilities may depend on various factors. First is the degree in which the spot and futures currencies are negatively or positively correlated. Secondly, this also depends on the level of accuracy of the estimated risk-minimizing cross-hedge factors. In addition, time is an important factor in this process and therefore the capability of cross hedging depends on the stability of the optimal cross hedge proportions over a given duration or period of time. Moreover, this also depends on the potential risk reduction from portfolio cross-hedging. A hedger is any individual or institution that minimizes the variance of expected monetary returns on a currency spot position with regards to a position in the currency’s corresponding future contract. There are various reasons for hedging in a financial set up. First is for the purposes of managing volatility in cash flows. ...
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