Restricted Export Flexibility and Risk Management with Options and Futures

27 Pages Posted: 13 May 2001

See all articles by Axel F. A. Adam-Muller

Axel F. A. Adam-Muller

University of Trier, Fachbereich IV - BWL

Kit Pong Wong

University of Hong Kong

Date Written: March 2001

Abstract

This paper examines the production, export and risk management decisions of a risk-averse competitive firm under exchange rate risk. The firm is export flexible since it can allocate its output to either the domestic market or a foreign market after observing the realized exchange rate. However, export flexibility is restricted since the firm has to satisfy certain minimum sales requirements in both markets in order not to lose its customer base. Currency call options are sufficient to derive the well-known separation theorem under restricted export flexibility. If currency futures and options are fairly priced, full hedging with a portfolio of both instruments is optimal. If currency futures are the only hedging instrument available, neither separation nor full hedging can be derived. Introducing fairly-priced currency options to the firm stimulates production provided that the currency futures market is unbiased.

Suggested Citation

Adam-Muller, Axel F. A. and Wong, Keith Kit Pong, Restricted Export Flexibility and Risk Management with Options and Futures (March 2001). Available at SSRN: https://ssrn.com/abstract=269846 or http://dx.doi.org/10.2139/ssrn.269846

Axel F. A. Adam-Muller (Contact Author)

University of Trier, Fachbereich IV - BWL ( email )

Trier, D-54296
Germany
+49-651-2012725 (Phone)
+49-651-201-3841 (Fax)

HOME PAGE: http://finance.uni-trier,de

Keith Kit Pong Wong

University of Hong Kong ( email )

Faculty of Business and Economics
University of Hong Kong
Hong Kong, Nil Nil
Hong Kong
(852) 2859-1044 (Phone)
(852) 2548-1152 (Fax)

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