Currency Hedging

Core idea

Currency hedging offsets foreign-exchange exposure created by international assets, liabilities, or cash flows. Forwards, futures, options, and natural offsets differ in cost, flexibility, and basis risk.

Implementation

The hedge ratio should reflect the exposure horizon, settlement currency, carry, and tolerance for residual FX risk.

Primary risk

Forecast errors and changing asset values can leave the hedge too large or too small.

Frequently asked questions

What is currency hedging?

Currency hedging offsets foreign-exchange exposure created by international assets, liabilities, or cash flows. Forwards, futures, options, and natural offsets differ in cost, flexibility, and basis risk.

What is the main risk of currency hedging?

Forecast errors and changing asset values can leave the hedge too large or too small.