Q Explain what is a hedging arrangement and how does it reduce foreign currency risk exposure Home, - How does hedging arrangement reduce foreign currency risk exposure Question: Explain what is a hedging arrangement and how does it reduce foreign currency risk exposure? ANSWER: Risk can be averted and minimized in different approaches and one such way of minimization of the risks is hedging. It is nothing but an insurance process where in the loss any if occurs to the company by way of the loss of the value of the foreign currency, hedging insurance will cover the same. Hedging arrangements are expected to be undertaken for reducing the risks associated with the changes in the values of the foreign currency and exchange rates. If the money is owed to or owed by in either case, changes in the values of the currency will create risk of loss of money to the company. Hedging contract will undermine this risk of possible impact on the company due to the changes in the foreign currency exchange rates. The adverse financial implications due to the changes in the foreign currency rates will be minimized by the hedging contract obligations. How does it reduce the foreign currency risk exposure? 1. Suppose if the foreign exchange rate got fallen down, the purchaser will be at gain and who sold the item will be at loss. Hedging contract will safe guard the interest of the seller in this case and protects the forward rate agreed by the bank to the seller of the item. 2. IF the rate of the currency got boosted up the buyer will be at loss as he need to pay more for the same item than the price value agreed for. Here in this case the hedging contract and subsequent actions of the hedging instrument will protect the interests of the buyer by protecting the value he purchased for and sticking just to the forward rate at the time of agreement. These are the ways through which the hedging instruments will mitigate the risk that arises from the fluctuations of the currency values in the international scenario. Related: Has any goodwill been acquired Determine the interest rate implicit in the lease Provide explanation for capitalising the expenses How does hedging arrangement reduce foreign currency risk exposure
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