Currency Hedging: Managing Cash Flow Exposure

Liliana Varela (London School of Economics)

November 15, 2022, 11:30–12:30

Banque de France, Paris

Room 1 Espace Conférence & Online

Séminaire Banque de France


This paper uncovers five novel facts about firms' currency exposure and use of foreign currency (FX) derivatives employing a unique dataset covering the universe of FX derivatives transactions in Chile from 2005-2018, together with firm-level census data on balance sheet, international trade, trade credits, and foreign currency debt. (i) Natural (operational) hedging of payables and receivables is quantitatively limited. (ii) FX derivatives are used to hedge larger amounts of cash flow exposure, particularly of trade financing. (iii) Firms use FX derivatives to hedge their gross---not net---cash flow currency risk. (iv) The FX premium is heterogeneous across and within firms, higher for smaller firms and longer maturity contracts. (v) FX hedging adds value to the firm due to the presence of frictions, particularly those associated to time lags in day-to-day operations. Exploiting an exogenous supply shock, we show that lower liquidity in the FX market reduces firms' FX hedging and, as a result, their leverage, trade and size.