O 92 Transaction Exposure Management

An action that removes transaction risk is said to "cover" that risk. A cover involves the use of forward contracts, a combination of spot market and money market transactions, and other techniques to protect a foreign-exchange loss in the conversion from one currency to another. The term "conversion" relates to transaction exposure because the transaction exposure involves the actual conversion of exposed assets and liabilities from one currency to another. If MNCs decide to cover their transaction exposure, they may select from a variety of financial instruments and operational techniques. Operational techniques, such as exposure netting, leading and lagging, and price adjustments through transfer prices, will be discussed in chapter 10. This chapter will focus on the following four financial instruments.

Table 9.1 Major differences among three types of exposure

Variables

Translation exposure

Transaction exposure

Economic exposure

Contract

Specific

Specific

General

Duration

A point in time

Period of contract

Project life

Gains (losses)

Easy to compute

Intermediate to

Difficult to compute

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