Empirical evidence on the incentives to hedge transaction and translation exposure

Niclas Hagelin and Bengt Pramborg
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Bengt Pramborg: Stockholm University School of Business

Finance from EconWPA

Abstract: We investigate Swedish firms’ use of financial hedges to reduce their foreign exchange exposure for 1997–2001. The study uses survey data, which enables us to differentiate between hedging aimed at translation exposure and transaction exposure, respectively. The survey responses show that more than 50% of the firms employ financial hedges and that transaction exposure is more frequently hedged than translation exposure. We find that the likelihood of using financial hedges is increasing with firm size and exposure and that liquidity constraints are important in explaining transaction exposure hedging. Importantly, we find that the existence of loan covenants explains translation exposure hedging. This suggests that firms hedge translation exposure in order to prevent costly violations of loan covenants.

Keywords: Risk management; hedging; foreign exchange exposure; transaction exposure; translation exposure; loan covenants; bond covenants (search for similar items in EconPapers)
JEL-codes: F23 F31 G39 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-ifn
Date: 2004-07-28
Note: Type of Document - pdf; pages: 27
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Persistent link: http://EconPapers.repec.org/RePEc:wpa:wuwpfi:0407020

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