The Impact of Corporate Derivative Usage on Foreign Exchange Risk Eposure

36 Pages Posted: 28 Feb 2005  

Aline Muller

HEC Management School University of Liège; Maastricht University - Limburg Institute of Financial Economics (LIFE)

Willem F. C. Verschoor

VU University Amsterdam, Faculty of Economics and Business Administration

Date Written: March 2005

Abstract

This paper not only determines why individual firms use foreign currency derivative but investigates also what effects this derivatives usage has on the foreign exchange risk exposure of 471 European non-financial firms. We find strong evidence in favor of the existence of economies of scale in hedging and show that European firms engage in hedging programs in response to tax convexity. Results tend to support financial distress motives to hedge, but no evidence is found in favor of agency costs related motives. Whereas the degree of international involvement strongly determines the magnitude and significance of a firm's exchange rate exposure, it appears that large firms benefit from the diversification of their foreign operations and are to a greater extent capable of implementing operational hedging strategies. Our findings show furthermore that European firms use FCDs to hedge - and not to speculate -. The statistically weak effects these hedging strategies have on firms' currency exposures reveal, however, that European companies are hedging only a small proportion of the currency risk they are facing.

Keywords: Risk management, foreign exchange risk, foreign currency derivative use, European multinational firms, optimal hedging theories

JEL Classification: F3, G12, G32

Suggested Citation

Muller, Aline and Verschoor, Willem F. C., The Impact of Corporate Derivative Usage on Foreign Exchange Risk Eposure (March 2005). Available at SSRN: https://ssrn.com/abstract=676012 or http://dx.doi.org/10.2139/ssrn.676012

Aline Muller (Contact Author)

HEC Management School University of Liège ( email )

B-4000 Liege
Belgium
+3242327435 (Phone)
+3242327376 (Fax)

Maastricht University - Limburg Institute of Financial Economics (LIFE) ( email )

P.O. Box 616
Maastricht, 6200 MD
Netherlands

Willem F. C. Verschoor

VU University Amsterdam, Faculty of Economics and Business Administration ( email )

De Boelelaan 1105
Amsterdam, 1081 HV
Netherlands

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