Modeling Foreign Exchange Rate Exposure: An Industry Level Study Using Panel Econometric Methods from Egyptian Insurance Data

Abstract

Purpose: The main purpose of this paper is to fill a gap in the foreign exchange rate exposure management literature as the existing literature has focused only on developed economics, and also the current literature on foreign exchange rate exposure of cedant insurance companies is very limited. As Egyptian insurance companies deal directly with foreign exchange rates, they face exposure to exchange rates through their international reinsurance operations.

Design/methodology/approach: Martin and Mauer (2003, 2005) three-stage model is used to estimate foreign exchange rate transaction exposure for the sample of 23 Egyptian insurance companies over the period 2002 to 2009. However, this study has two innovations to this method. The first innovation is that instead of looking at the unanticipated operating income for each cedant company (as in Martin and Mauer, 2003; Li et al., 2009), this work looks at the unanticipated operating income on an aggregate level. The second innovation is that instead of the model used in previous papers the research use a model from the actuarial field that was proposed by Blum et al. (2001) for modelling foreign exchange rates with their relevant constituents (inflation and interest rate).

Findings: The central finding of the study is that the foreign exchange rate exposure across the Egyptian insurance industry is not significant (at the 10% level) and investigates this result.

Originality/value: Since Egyptian insurance operates worldwide, the results of this paper are of significant not only for Egyptian insurance mangers but also to practitioners beyond Egypt.

Keywords: Modelling Foreign Exchange Rate Exposure, Panel Econometric Methods, Insurance companies, Egypt

JEL Classification: G22; F31