Explain how hedge ratios are adjusted using currency forwards and foreign exchange swaps
The idea
A hedge sells the foreign currency forward in an amount equal to the target share of foreign assets. As those assets change in value the ratio drifts: a 50 million hedge on holdings that grow to 54 million is only about 92.6% hedged, so a further 4 million is sold forward to restore a full hedge. At maturity the hedge is rolled with an FX swap: a spot trade settles the expiring contract and a new forward is opened. A mismatched swap, with different spot and forward amounts, resizes the hedge at the same time. Settlement creates cash gains or losses that must be funded. Frequent rebalancing tracks the target closely but costs more, so managers use tolerance bands.
In the app: 2 practice questions on this outcome, a narrated walkthrough with diagrams, spaced review that brings it back before you forget it.
Take the free diagnostic →More in Currency Management: An Introduction
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