Foreign Exchange Risk and Hedging.Discuss

Lauren Kelley

BUSI 620 – D05

Liberty University

Question 4 – Foreign Exchange Risk and Hedging

According to Salvatore (2015) portfolios with domestic and foreign securities typically enjoy lower volatility and higher dollar returns than those with U.S. securities (p. 622). Many experts recommend as much as 40% of a portfolio should be in foreign securities. However, exporters should be aware that by investing in foreign securities could lead to a foreign-exchange risk. This is due to the fact that during the time of investment, the foreign currency can deprecate or decrease in value (Salvatore, 2015, p. 622). In order to minimize the foreign exchange risk, exporters should use a technique known as hedging to protect itself. Hedging is the covering of a foreign-exchange risk (Salvatore, 2015, p. 622). There are two different types of hedging: forward contract and futures contract. Forward contract is when there is “…an agreement to purchase or sell a specific amount foreign currency at a rate specified today for delivery at a specific future date” (Salvatore, 2015, p. 622). A futures contract is when there is predetermined quantities of a specific type of currency and a specific calendar date (For example – 25,000 euros for a March 15th delivery). Future contracts are much more liquid than forward contracts. Hedging in forward or future markets reduces transaction costs and risks, as well as increasing the volume of domestic and foreign trade. Exporters would be wise to hedge its foreign exchange risk.

Question 5 – Payday Loans and Interest

Payday loans are typically used when applicants are experiencing financial difficulty, have bad credit, or need money quickly. The borrower often lives from paycheck to paycheck. Authors Bhutta, Skiba and Tobacman (2015) discuss payday loans within their article titled, Payday Loan Choices and Consequences, stating that lenders will typically charge between 10 to 20% interest for a 1 to 2 week loan. This implies an annualized percentage rate (also known as APR) between 260% and 1,040%. Based on these terms, many speculate if payday loans are even worth it. If borrowers are unaware of what they are agreeing on, it could quickly cause financial distress and reduce consumer welfare. (Bhutta, Skiba & Tobacman, 2015, page 244). However, since most payday loans are normally repaid within such a quick turnaround time, lenders often need to charge a higher interest rate or else they would not be able to make any money themselves. If used correctly, and with the borrower being made fully aware of what they are getting into, payday loans can be helpful for those who are in need (Bhutta, Skiba & Tobacman, 2015, page 244). With this being said, the interest rate on payday loans are just right. If lenders are not making any money, they could decide to no longer lend money, which would result in fewer options for those who are in need.

As Christians, we are commanded that should always be willing to lend a helping hand for those who need it, and expect nothing in return. Deuteronomy 15:11 states, “For there will never cease to be poor in the land. Therefore I command you, ‘You shall open wide your hand to your brother, to the needy and to the poor, in your land’” (ESV). That being said, I do not believe that Christians should charge people interest on loans if it can be helped.

References

Bhutta, N., Skiba, P., & Tobacman, J. (2015). Payday Loan Choices and Consequences. SSRN Electronic Journal SSRN Journal, 47(2-3), 223–260

Salvatore, D. (2015). Managerial economics in a global economy (8th ed.). New York, NY: Oxford University Press. ISBN: 9780199397129.