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Hedging - Foreign Exchange

Narasimha Rao (53 Points)

10 May 2007

Hi all,

Can any one explain me the concept of HEDGING OF FOREIGN EXCHANGE?

Thanks in advance
Narasimha

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10 Replies

Ankit Bhatia (163 Points)
Replied 10 May 2007

hedging is to guard against the devaluation of currency and a rate for conversion is booked in advance to guard against devaluation of currency against the other,accounting is done as per AS 11

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Amit (61 Points)
Replied 10 May 2007

Archive (archive) (40 Points)
Replied 10 May 2007

First answer is correct but this is not the actual hedging. Yes hedging is something to protect the currency devaluation on the time of actual receipt or payment. Here I am advicing to go thru Prasun Rakhsit's note if you are based on kolkata or you can go thru Rajesh Makkar's notes if you are based on Delhi. For other place you can collect this notes and make it clear by doing some practicals.

Anuj (19 Points)
Replied 10 May 2007

i completely agree with Ankit.he is technically perfectly right.and look at the stupid advising to read Makkar for conceptual clarity.
i think she is a fool.

Amit (13 Points)
Replied 10 May 2007

i agree with Anuj.she is a fool.

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Joseph (16 Points)
Replied 10 May 2007

I don't know anything about Prasun Rakhsit's notes or Rajesh Makkar's notes, but Ankit's answer seems simple and apt.

Harish Sharma (16 Points)
Replied 10 May 2007

hedging is to spread the individual risk of foreign exchange trancection over no of parties.With doing so one can reduce his own risk.

As simple as concept is in insurence where the risk of single person spreaded over
no of insurees.
for example when u got insured ur stock will have to pay only the primium not the full value of stock.

in the context of foreign suppose ur an importer and u will have to pay a amount after 2 months. now ur are scared that after 2 months exchange rate will gone up and u will have to pay more insted of what u pay today

for the sack of mininnising the risk u will book a forward contract (type of hrdging the risk) for 2 months at 2 months forward rate.

for example
u import goods worth 25000$ on two month credit
spot rate 1$=Rs45
after 2 month 1$=Rs47
if u pay import bill today than u will have to Rs.1125000 to buy 25000$ but ur liabilitiy to pay is after 2 months and on that date u will have to pay Rs 1175000 so the extra burden on u is Rs 50000.
To minimise the above risk u have to make 2 month forward contrect
assume two month forward rate is 1$=Rs46.20
By doing f\contract u will save Rs20000 (46.20*25000)-(47*25000).

thats all

if u have any confusion on the above mail me.
thanks

Aditya (81 Points)
Replied 10 May 2007

Hedgin , in simple words refers to safeguarding assets/liabilities against loss due to foreign exchange transaction. it is done through using a judicious mix of options, forward contracts, futures.

CA Kunjan - www.canaresh.com (www.canaresh.com) (394 Points)
Replied 17 May 2007

what if you make an early payment to creditor? i think it will be cancellation of the contract. then, difference in what rates should be taken for booking the p/l on date of cancellation? forward contract rate minus cancellation rate or spot rate on date of contract minus cancellation rate? kunjan shah - 9820750784