Discuss about the Exchange Rates for Quantitative Financial Economics.
Many businesses especially those involved in international trade like Toyota Motors are exposed to various foreign exchange risks.A risk means the possibility of occurrence of an event, as well as the consequences derived. There are three different methods that weill be covered in this paper on how Toyota Motors mitigates itself against foreign exchange risk. Risk coverage entails a set of strategies that can be implemented to minimize failure and uncertainty in the face of a threat (Foreign currency exchange, 2009).
Foreign Exchange risk: this risk, also called the exchange rate, comes from changes in the currency exchange rates.It happens when the consumer places part of his assets in a foreign currency (either in currency or in a financial instrument with a currency denomination).
Toyota motors in Japan uses the forward contracts the forward currency situation is unique, you can make a forward contract to purchase or dispose a particular currency. Toyota has an agreement to buy US dollars when it is on a low values and sell Japanese Yen the counterpart at a date in future at the Current exchange rate. That is the car producing company will buy and sell currencies during a time when it is deemed profitable to the company in future. As the rate of exchange between the US dollar and the Japanese Yen changes between the contract date and the settlement date, one party loses and the other wins relatively, one of the currency will have appreciated against the other and Toyota Motors will emerge the winner by mitigating itself against Forex losses (Cuthbertson, & Nitzsche, 2010). Forward contracts entered by Toyota Motors reduce vulnerability to currency risk, but they can also be made by need of the currency at a date in future (for example to pay a debt which is in a certain currency) or purely for speculative purposes expecting the exchange rate to favorably fluctuate to produce a gain at the close of the contract.
A currency swap is the simultaneous sale and purchase of one currency by another. In theory, at a later date these operations will be reversed. Toyota Motors buys and sells a currency in which at a future date the operations will be reversed.to mitigate against currency exchange losses.The first is done at a price, and the second, to another, but to the future and are agreed at the same time, as they are intended to compensate each other (DeRosa, 2013).
Toyota Motors together with the other party must assume its obligation of repayment as a guarantee of the agreement, alos, they may devise this strategy as a secured and risk-free loan. They often resort to them entities to help finance their money balances and investors to cover their positions.
Lead or lag strategy
Lead and lag is yet another strategy that is used by Toyota to mitigate foreign exchange risks. This is done when the company decides to alter receipts or normal payment in a transaction that involves foreign exchange currencies (Rheinla?nder, & Sexton, 2011). This is as a result of changes expected in exchange rates. When there is an expected increase in foreign exchange it is likely that the company will speed up payments. On the other hand, an expected exchange rates decrease the company will slow down transactions.
Cuthbertson, K., & Nitzsche, D. (2010). Quantitative financial economics (1st ed.). Chichester [u.a.]: Wiley.
DeRosa, D. (2013). Options on foreign exchange (1st ed.). Hoboken, N.J.: Wiley.
Foreign currency exchange. (2009) (1st ed.). [Mosman].
Rheinla?nder, T., & Sexton, J. (2011). Hedging derivatives (1st ed.). New Jersey: World Scientific.