currency risk

Beyond the Random Walk: A Guide to Stock Market Anomalies and Low Risk Investing
by Vijay Singal
Published 15 Jun 2004

The addition of international mutual funds to ADRs and ETFs almost fully captures the benefits of international investing, eliminating the need for an individual investor to invest overseas directly. 253 254 Beyond the Random Walk Currency Hedging One issue that has elicited different responses is the role of currency risk in overall risk and return. Currency risk has been accounted for in all of the evidence presented. So the existence of currency risk will not reduce the benefits of investing in foreign markets. Rather, the question is whether managing currency risk will improve the gains from international investing. While the reduction of any kind of risk is good, there are two issues that must be considered with regard to currency risk. First, the correlation between currency risk and stock market risk is close to zero. That means that currency changes and stock returns are independent of one another.

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That means that currency changes and stock returns are independent of one another. Though both currency risk and stock market risk contribute to the total risk of a portfolio of foreign stocks, the contribution of currency risk to the total risk is not very large because of the zero correlation. On average, currency risk contributes less than 20 percent of the total risk. The second issue is the cost of hedging currency risk. To completely eliminate currency risk, a dynamic hedging strategy is required, which can be very expensive. Even incomplete hedging can be costly due to the time required and the expense of putting the hedge in place.

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In addition, for most individual investors, American depository receipts (ADRs, discussed below) provide an easy and inexpensive way to trade where the costs of trading foreign stocks are equivalent to those for trading domestic stocks. CURRENCY RISK Concern Holding foreign securities denominated in foreign currencies entails currency risk, as dollars must first be converted into foreign currencies and the foreign currencies converted back into dollars at the future rate. As the future rate is unknown, investing in foreign markets suffers from an additional risk due to currency fluctuations. Rejoinder Yes, there is currency risk due to currency conversions and uncertainty with regard to future exchange rates. However, as all of the returns reported in the earlier tables are in dollar terms, those returns already incorporate associated currency risk.

Investing Demystified: How to Invest Without Speculation and Sleepless Nights
by Lars Kroijer
Published 5 Sep 2013

By comparison, a US-based investor buying short-term UK government bonds would have the same security of getting his principal back, but would incur currency risk as the GBP/USD exchange rate fluctuations add risk. So if, for example, the UK bond promised to pay the investor £101 a year hence for a £100 investment today, both investors are equally certain of receiving £101, but while the £101 would always be £101, the US dollar value of that amount could fluctuate quite a bit and is thus more risky. The US investor would therefore be better served by owning short-term US government bonds that are of similar credit quality to the UK government bonds where his returns would be independent of currency risk. If your base investment currency is one where the government credit is of the highest quality, those government bonds will generally be a great choice for your minimal risk investment.

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For all their undoubted economic successes over the past decades countries like Brazil, Mexico and India do not have highly rated government bonds (all approximately BBB-rated at the time of writing). As a Brazilian you could buy Brazilian short-term government bonds which would not be minimal risk or highly rated government bonds in one or a couple of foreign currencies, although this would involve a currency risk. Depending on the credit rating of your base currency government you may choose to take the credit risk of the domestic government bonds instead of taking the currency risk of highly rated foreign bonds, or perhaps even keep money in cash deposits in the local bank if that is considered a superior credit option to domestic government bonds (see the box on pages 49–53). Older people in certain parts of the world, including Brazil, undoubtedly remember times of domestic economic turmoil and the thought of buying local government bonds as their minimal risk asset will seem like heresy.

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Perhaps diversify even the very low risk that your domestic government fails Investing in sub-AA credit ratings is a question of degrees. Some investors would be happy to invest in their BBB-rated local currency government bonds whereas others would rather invest abroad with currency risk than have an AA domestic-rated government bond. The choice partly depends on your situation and sensitivity to currency risk versus domestic credit risk. For those inclined to accept sub-AA domestic government bonds as their minimal risk asset I would encourage you to think about what else would happen in your portfolio if your domestic government defaulted.

Traders, Guns & Money: Knowns and Unknowns in the Dazzling World of Derivatives
by Satyajit Das
Published 15 Nov 2006

I continued quickly before Budi could launch another tangential verbal assault. ‘Yes,’ Budi confirmed. ‘Why?’ I asked. ‘Cheaper, much cheaper,’ Budi said. Adewiko nodded his head in silent assent. ‘What about the currency risk? You have borrowings in dollars but no dollar income. If the dollar rose against the rupiah, then your dollar borrowings would show losses. Did you consider the currency risk?’ I pressed. ‘No risk, no risk,’ Budi countered. ‘Why?’ ‘Rupiah fixed against dollar, no risk,’ Budi continued. Adewiko nodded. ‘So you assumed there was no risk?’ ‘No risk, no risk.’ Budi’s exasperation at the expert witness – me – showed.

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OCM weren’t protected against dollar interest rates going up and they wouldn’t enjoy the benefit of lower dollar rates if they fall. It was very interesting. There was worse – a cunningly hidden currency option. OCM was already exposed to currency risk. It had switched its borrowings into dollars. If the rupiah fell against the dollar they were, well, dead. The new deal meant if dollar rates fell then they would be exposed to currency risk on $600 million not the original $300 million. The exchange rate for the second $300 million was fixed at the original exchange rate. This meant that not only would OCM be borrowing more dollars, they would be doing it at an artificially inflated exchange rate.

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It was going gangbusters – royalties had reached ¥8,000 million (about $32 million) and were projected to grow at 10–20% per annum. The Japanese loved Mickey and Donald. The royalties were in yen. Upon receipt, Disney had to convert the yen into dollars: if the yen strengthened against the dollar then they gained, but if it weakened then they lost. This was the currency risk confronting Disney. The company had decided to hedge the currency risk. They were worried that the yen was going to depreciate. It was not clear why they thought this. Between 1982 and mid-1985, the yen/dollar exchange rate had traded in a modest range of $1/¥230 to $1/¥257 (about 12%). Since the end of 1984, the yen had weakened a little from ¥246 to ¥250.

Triumph of the Optimists: 101 Years of Global Investment Returns
by Elroy Dimson , Paul Marsh and Mike Staunton
Published 3 Feb 2002

The total height of the left-hand bar shows the standard deviation of that country’s equity returns in real, dollar terms. The top part of the left-hand bar thus shows the contribution that currency risk makes to total risk for a dollar-based international investor. Figure 8-1 shows that currency risk did not add greatly to a US-based investor’s risk, despite the high currency volatility during the twentieth century. The total dollar risk was generally less than the sum of the local market and currency risks because the correlation between the two returns was such that they often offset one another. The correlations are shown in Table 8-1. The top part covers equities, and the bottom half covers bonds.

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Dr Staunton holds a BSc from Manchester University, and a MBA and PhD in Finance from London Business School. 331 Index ABN AMRO, xi, xii, 4, 44, 78, 126, 128, 135, 136, 228, 299 ABN AMRO/LBS Indexes, 228, 299–305 Active management, 144, 205, 207–8 Adams, K., 38 Agarwal, V., 35 Ahearne, A.G., 120, 121 Akiyama, R., 269 Aleotti, A., 264 Alternative Investment Market (AIM), 23, 160 American Stock Exchange (Amex), 11, 23, 46, 158 Amsterdam, 19 Annaert, J., xii, 234 Anomalies, 7, 8, 9, 124–38, 139–48, 153, 205, 207, 208, 209 see also seasonality, size effect, value-growth effect Arbulu, P., 249 Archy, the cockroach, 224 Argentina, 20, 21, 84 Arithmetic mean, 54–5, 181–5, 214–5 Arnott, R.D., 156, 192, 204 Asset allocation, 9, 205, 207, 217 Asset class comparisons, 51–3, 59–61 Australia, 229–33, see also cross-country comparisons Austria, xi, 15, 20, 67 Austria-Hungary, 21–2 Bachmann, J.W., xii Baggaley, R., xii Ball, R., 229 Banz, R., 124, 125, 126, 127, 130, 131, 133 Barber, B., 207 Barclays Capital, 38, 174 Barsky, J., 161 Basu, S., 146 Belgium, 234–8 see also cross-country comparisons Benavides, F.G., 284 Benchmarks, 7, 31, 34–44, 55, 63, 73, 74, 105, 163, 169, 187, 206, 207, 208, 215, 217 see also indexes Berman, D., xi Bernstein, P.L., xi, 189, 192, 195, 199, 204 Beta, 180, 214, 215 Bianchi, B., 264 Bias, 34–36 see also easy data bias, look-ahead bias, success bias, survivorship bias Bill markets, 19, 68 Bills, 68–73 Biscaini Cotula, A.M., 264 Bittlingmayer, G., xii, 254 Black, F., 141, 208 Blake, C.R., 35 Bodie, Z., 84, 185, 217 Bond markets, 11, 14–9, 45–50, 53, 62, 100–4, 107–11, 172, 205, 221 see also bonds Bond ratings, 87–9 Bond returns, 51–3, 59– 61, 74–90 Bond yield, 35, 75, 76, 81, 207, 284, 289 Bond, T., 38 Bonds, 74–90 see also bond markets, bond ratings, bond returns, bond yield, corporate bonds, default risk, inflationindexed bonds, maturity premium, term premium Book-to-market ratio, 139–43, 148, 216, 218 Book value, 139–43, 148, 216, 218 Borchardt, K., 66 333 Boskin, M.J., 43 Bouman, S., 138 Bowers, J., xii, 229 Bowley, A.L., 259 BP, 28, 31 Brav, A., 188 Brazil, 12, 15, 20, 21, 84 Brealey, R.A., xi, 185, 211, 218, 239 Breeden, D., 180 Breen, W., 146 Brennan, M.J., 35 Bretton Woods, 93, 94, 99, 103, 115, 116 British economy, 48 British Empire, 21, 48, 114 Brown, M., xi Brown, P., 229 Brown, R.H., xi, 85 Brown, S., 35, 41 Bruner, R.F., 194, 216 Buckley, K.A.H., 239 Buelens, F., xii, 234 Buy-and-hold strategies, 207–8 see also indexation Buybacks, see repurchases Calendar anomalies, 8, 135–8, 208 Campbell, J.Y., 57, 84, 118 Canada, 239–43 see also cross-country comparisons Capaul, C., 145 Capital Asset Pricing Model (CAPM), 179–81, 215 Capital gains, 5, 35, 39, 85, 140, 149–51, 159, 161, 171, 234, 279, 301 Capitalization weighting, 13, 38–40, 128, 311 Carhart, M.M., 35 Carpenter, J.N., 35 Center for Research in Securities Prices (CRSP), 30, 38, 39, 45, 46, 125, 126, 133, 136, 140, 158, 187, 306 334 Chan, L., 145 Chen, P., 190, 192 Chicago, 20, 38, 45, 306 Chile, 20, 21 China, xi, 12, 13, 15, 41, 222 Christiansen, J., 244 Chung, S., 211 Ciocca, P., 264 Claus, J., 188 Closet index funds, 208 Cold War, 22, 189, 210, 223, 224 Columbia, 20 Common-currency returns, 17, 40, 100–3, 105 Conant, C.A., 122 Concentration, 5, 11, 28– 33, 223, 300 Constant growth model, 155, 162, 177–9, 189–92 see also dividend growth Cooper, I., xi, 121, 122, 184 Copenhagen, 244 Cornell, B., 181 Corporate bonds, 6, 14, 16, 87–90 Corporate financing, 10, 217, 219 Corporate investment, 211–7 Correlation, 13, 86, 87, 106, 107–8, 114–17, 128, 143, 153, 154, 156, 157, 161, 173, 180 Cost of capital, 3, 9, 18, 149, 193, 198, 211–9 Cost of debt, 212, 218 Cost of equity, 9, 163, 183, 211–9 Coverage, 11–28, 34–40, 43, 44, 128, 133, 158, 222, 264 Cowles, A., 23, 39, 46 Crash of October, 1987, 47, 58, 117 Credit Suisse First Boston (CSFB), 174 Triumph of the Optimists: 101 Years of Global Investment Returns Cross-holdings, 12, 13, 39 Cross-country comparisons, bills, 59–61, 71–2 bonds, 51–3, 59–61, 79– 80, 100–3, 105–8 bond markets, 14–7 common-currency returns, 100–3 concentration, 28–32 correlation, 114–7 dividend growth, 154–7 dividend yield, 157–8 easy data bias, 42–3 equities, 50–3, 59–61, 100–3, 105–8 equity markets, 11–4 exchange rates, 91–108 gains from international diversification, 111– 4, 117–20 home bias, 120–2 inflation, 65–8 interest rates, 71–2 maturity premia, 82–4 risk premia, 166–8, 171– 3, 183–5, 188–90, 201–4 sector weightings, 26–8 size effect, 129–35 value-growth effect, 145–8 Currency, 3, 91–104, 105– 8, 311 see also common-currency returns, currency risk, exchange rates Currency risk, 17, 98–9, 105–8 Currency volatility, see currency risk Cuyvers, L., 234 Czech Republic, 20, 21 Darlington, K., xi Das, S., 117 Datastream, 27, 234, 244, 259, 289, 294 Davis, J., 142 Day-of-the-week effect, 135 de Ceuster, J., 234 De Long, B., 161 de Ridder, A., 289 de Zoete, 36, 37, 38 Default, 87–9 Default risk, 68, 74, 87–90, 163, 169, 214, 219 Deflation, 6, 64, 68, 70, 71, 73, 78, 221 Denmark, 244–8 see also cross-country comparisons Devos, G., 234 Dimson, E., iii, v, xi, xii, 27, 35, 126, 129, 130, 138, 184, 193, 299 Disappearing dividends, 149, 153, 158–61 Distress, financial, 87, 141, 147, 218, 219 Diversification, 6, 7, 20, 45, 56–8, 61, 105, 108, 109, 111, 114–23, 168, 180, 188, 189, 194, 201 Dividends, 8, 10, 35, 38, 46, 47, 49, 51, 124, 126, 139–43, 149–62, 174, 177–9, 190–3, 211, 234, 239, 244, 274, 284, 289, 294, 300, 306 see also disappearing dividends, dividend growth, dividend policy, dividend yield Dividend growth, 8, 9, 124, 134, 149, 152–7, 161, 162, 178, 190–3, 214 Dividend growth and GDP, 155–7 Dividend payout, 157–61 Dividend policy, 158–61, 216–9 Dividend yield, 8, 38, 39, 139–48, 149–51, 155, 157–8, 162, 177, 190–4, 218, 234, 259, 279, 284, 294, 300 Dodd, D.L., 139 Dow Jones, 39, 47, 58, 176–9 Dulberger, E.R., 43 Eades, K.M., 194, 216 Index Early stock markets, 19– 23 Easy-data bias, 6, 34, 40– 4, 174, 221, 222 Eatwell, J., 48 Egypt, 20, 21 Eichholtz, P., 274 Elias, D., 176 Elton, E.J., 35 Equity premium puzzle, 180, 202 Equity returns, 4, 9, 37, 38, 39, 42, 43, 44, 45–62, 105–23, 124–38, 138–48, 163–75, 176–94, 195– 204, 206, 220–4 Equity risk premium, see risk premium Ericsson, 29 Euro, 15 Eurobonds, 16–7 Eurozone, 15, 17, 99, 213 Excess returns, 82, 112, 114, 165 Exchange rate risk, 98–9, 105–8 Exchange rate volatility, 98–9, 105–8 Exchange rates, xii, 7, 11, 36, 91–104, 219, 220, 227, 254 see also commoncurrency returns, exchange rate volatility, real exchange rates Expectations, 4, 54, 77, 79, 81, 85, 87, 89, 90, 158, 161, 166, 167, 169, 171, 176–94, 201, 202, 210, 212, 223, 224 Fama, E.F., 70, 141, 142, 143, 146, 147, 155, 158, 159, 160, 162, 192, 218 Fat tails, 56, 204 Financial distress, 87, 218, 219 Financial management, 211–9 Financial reporting, 218–9 Financial Times (FT), 23, 24, 36, 37, 223, 299 335 Financial Times-Stock Exchange (FTSE), xi, 28, 38, 115, 133, 134, 143, 299 Finland, 12, 20, 28, 29, 121 Finn, F.J., 229 Firer, C., xii, 42, 279 First World War, 37, 44, 47, 69, 75, 76, 93, 94, 116, 122, 123, 153 Fisher, I., 38, 69, 70 Fisher, L., 38 Fisher effect, 69–70 Floating exchange rates, 94, 98 Foreign bonds, 16–7 Foidl, N., 254 France, 249–53 see also cross-country comparisons Frankfurt, 19 Fraser, P., 188 Free float, 13, 39 French, K.R., xi, xii, 140, 141, 142, 143, 146, 155, 158, 159, 160, 162, 192, 218 Frennberg, P., xii, 289 FT Index, 36, 37 Fujino, S., 269 Function of bond markets, 18–9 Function of stock markets, 18–9 Fund managment, 9, 144, 205–9 Gallais-Hamonno, G., xii, 249 GDP, see gross domestic product Gemis, M., 234 General Electric Corp, 18, 23, 28, 32 Geometric mean, 38, 51, 59–61, 71, 82, 89, 92, 110, 152, 154, 163–75, 181–94, 197, 198, 202, 203, 214, 219, 223 Germany, 254–8 see also cross-country comparisons Giammarino, R., 239 Gielen, G., 254 Glassman, J.

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Cross-border investment typically involves taking stakes not only in foreign markets but also in their currencies, and hence entails exchange risk. We begin in section 8.1 by taking a closer look at the risk of the common-currency returns documented in chapter 7, on a country by country basis. We investigate how the total risk breaks down into local market risk and currency risk, and examine the impact and wisdom of hedging against currency risk. In section 8.2, we create benchmarks for assessing the risk and return from international diversification by constructing a twentieth century world index for both equities and bonds. These two indexes correspond to a policy of diversifying across all sixteen countries in proportion to their size.

Valuation: Measuring and Managing the Value of Companies
by Tim Koller , McKinsey , Company Inc. , Marc Goedhart , David Wessels , Barbara Schwimmer and Franziska Manoury
Published 16 Aug 2015

First of all, price fluctuations tend to mitigate currency fluctuations because of purchasing power parity. Second, currency risk is largely diversifiable for companies and shareholders. Any remaining risk from currency rate changes is best reflected in the cash flow projections for the investment. Keep in mind that nominal currency risk is irrelevant if exchange rates immediately adjust to differences in inflation rates. The only relevant currency risk is therefore real currency risk as measured by changes in relative purchasing power. For example, if you held $100 million of Brazilian currency in 1974, by 2014 it would have been practically worthless in U.S. dollars.

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When translating returns from another currency, the approximation no longer holds, as the nominal risk-free rate will fluctuate with exchange rate. 504 CROSS-BORDER VALUATION be paired with sound judgment on long-term trends in interest rates and market risk premiums (see Chapter 13) to obtain a cost of capital estimate that is sufficiently robust for financial decision making. INCORPORATING FOREIGN-CURRENCY RISK IN THE VALUATION Many executives are concerned about currency fluctuations from foreign investments and their impact on value creation in company results. The analyst community and investors may be wary of the resulting earnings volatility (even though that does not matter for value creation). As a result, many companies still add a premium for currency risk to the cost of capital for foreign investments. There is no need for such a premium. As discussed in the previous section, currency risk premiums in the cost of capital—if any— are likely to be small.

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So while hedging may reduce the short-term cash flow volatility, it will have little effect on the company’s valuation based on long-term cash flows. Some risks, like the commodity price risk in this example of gold and oil companies, can be managed by shareholders themselves. Other, similarlooking risks—for example, some forms of currency risk—are harder for shareholders to manage. The general rule is to avoid hedging the first type of risk, but hedge the second if possible. Consider the effect of currency risk on Heineken, the global brewer. Heineken produces its flagship brand, Heineken, in the Netherlands, and ships it around the world, especially to the United States. Most other large brewers, in contrast, produce most of their beer in the same national markets in which they SUMMARY 47 sell it.

The Rise of Carry: The Dangerous Consequences of Volatility Suppression and the New Financial Order of Decaying Growth and Recurring Crisis
by Tim Lee , Jamie Lee and Kevin Coldiron
Published 13 Dec 2019

It would not include, though, all cases in which an investor in one country uses her savings to buy an asset in another country and currency to earn a higher yield (Japanese institutions and investors, for instance, have commonly done this). This latter case does have the characteristic of currency risk, which is common to all currency carry trades, but it does not involve leverage. A very important theme we return to later in this book is that carry is closely associated with leverage, and therefore with credit, and with the flip side of credit—debt. At the macroeconomic level, the apparent disregard of currency risk, or perhaps simply willingness to assume currency risk, that is common to currency carry trades will tend to increase demand for credit in the economy for any given interest rate.

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See also currency carry trades bailouts of, 197, 198 central bank balance sheets as, 216–217 in commodities, 128–129 credit growth and, 37–42 in dollars, 14–23, 15f, 16f Euro-funded, 31 exchange rate stability and returns from, 52 INDEX by Federal Reserve, 103 government policies and returns from, 48 by hedge funds, 73–75 leverage in, 33–35 leveraged buyouts as, 78–80 as liquidity-providing trades, 35–36 measuring flow of, 41 non-currency forms of, 34 oil, 128–133 profit explanation attempts for, 48 sovereign wealth funds and, 75–76 S&P 500 as, 160–162 carry trades characteristics of, 3–5 defining, 2 risk of, 3, 5 sawtooth return pattern of, 4 short volatility of, 4 types of, 4 cash yields, 204 CBOE (Chicago Board Options Exchange), 57 CDOs (collateralized debt obligations), 36–37, 95, 135 CDS (credit default swap), 34, 36, 135 celebrity, 186, 187 central banks balance sheets of, as carry trades, 216–217 carry and, 5–8 carry regime and policies of, 86–89, 107, 208, 210 carry regime and power of, 123 carry regime collapses and, 215–216 carry regime weakening, 7 credit demand and, 13 deflationary pressures and, 115 foreign exchange markets and, 11, 13, 20 interventionist policies of, 201–202 liquidity and, 110–111 market stabilization by, 5–6 moral hazard and, 195, 200 volatility selling by, 101–105 Chicago Board Options Exchange (CBOE), benchmark indexes by, 57 China, 19 circular flow of dollars, 18–19, 18f classical equilibrium model of economy, 142 currency carry trade returns and, 10 223 collateralized debt obligations (CDOs), 36–37, 95, 135 Columbia MusicLab, 181–182, 184, 188 commodities, carry trade in, 128–129 compensation incentives hedge fund strategies and, 73 proprietary trading and, 77 constant leverage, 93 consumer price index, Turkey, 44 consumption utility, 100 corporations carry strategies by, 80–83 debt issuance by, 81–83, 82f, 83f share buybacks by, 82, 83f covered interest parity principle, 21, 22 credit Australia growth of, 40f, 41 availability of, 4 carry bubbles and demand for, 114 carry trades and growth of, 37–42 central bank influence on demand for, 13 debt levels and demand for, 114 interest rates and demand for, 110 moral hazard issues and, 199 credit booms, currency carry trades contributing to, 13 credit bubbles carry bubbles and, 37–38, 41 mid-2000s, 36 credit carry trades, risk mispricing and, 35–37 credit default swap (CDS), 34, 36, 135 credit demand, 13 credit derivatives, 135 cross-currency basis, 22 cryptocurrencies, 211, 212 cumulative advantage carry as, 181–184 evolution and, 188–190 self-perpetuation and, 186–188 currency carry trades, 9, 129 academic interest in, 47–49 covered interest parity principle and, 21–22 credit bubbles and, 36 credit creation by, 20 current account deficits and, 17 emerging markets and returns from, 55 equity carry correlation with, 56–59, 58f 224 currency carry trades (continued) equity volatility and returns from, 59 exchange rate risks of, 17 exchange rate stability and returns from, 52 expected returns, 10 global financial crisis of 2007-2009 and, 28–29 historical returns, 50–52, 50f, 51f, 53f history of, 23–31, 24f identifying, 11–12 interest rate differentials and returns from, 60–62 Japan and, 17–18 liquidity provision and, 88 liquidity swaps and, 104–105 market pricing efficiency and, 11 money supply effects of, 20–21 net claims as proxy for measuring, 41 portfolio for analyzing, 49–50 real economy links with, 56 United States and, 17–20 volatility signs of collapse in, 215 currency markets, 10 currency risk, 12 currency risk aversion, 13 currency volatility, 62 current account deficit of Thailand, 25 of United States, 17 debt. See also collateralized debt obligations carry regime and levels of, 168 corporate issuance of, 81–83, 82f, 83f credit demand and levels of, 114 deflation from high levels of, 114 of oil producers, 130 Turkish, 202 debt deflation, 119, 121 deflation carry crashes and, 170 carry regime and, 113–121, 203, 210, 213 central bank interventions and, 115 debt, 119, 121 debt levels and, 114 deflation shock, 7, 121–124 deleveraging, 98 short squeezes on liquidity and, 165 INDEX delta, 149 delta hedging, 149–151 Depp, Johnny, 184 Divisia money, 111 dollar (US) carry trade in, 14–23, 15f, 16f circular flow of, 14–23 dominant international financial system role of, 22, 196 value of, 100 dollars, circular flow of, 18–19, 18f Doyle, Joseph, 59 economic indicators, 56 carry bubbles distorting, 44–45 emerging currencies, 55, 55n6 liquidity of, 62 emerging markets carry crashes in, 201 carry strategy returns and, 55 employee compensation hedge funds and, 73 proprietary trading and, 77 reporting horizons and, 71 equity leverage and, 93–94 volatility of, currency carry returns and, 59 volatility premiums in, 162 equity carry trade, currency carry correlation with, 56–59, 58f equity indexes, sovereign bonds correlation to, 161 equity risk trades, S&P 500 correlation with, 99 ETFs (exchange-traded funds), 111–112 ETNs (exchange-traded notes), 90, 92 EU.

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Therefore, the expectation should be that the high interest rate currency will depreciate against the low interest rate currency at a rate in line with the inflation differential, and therefore in line with the interest rate differential, because this is required for the maintenance of the high interest rate country’s trade competitiveness. In theory, forward exchange rates should reflect this expectation for depreciation of the high interest rate currency; there will be no gains to be had from borrowing the low interest rate currency to invest in the high interest rate currency while hedging the currency risk in the forward market. If there were a gain to be had from an unhedged carry trade, then it could be achieved more simply by buying the high interest rate currency in the forward market. A positive return from this simple strategy would accrue if the high interest rate currency does not depreciate in line with the expectation priced into the forward exchange rate.

The Permanent Portfolio
by Craig Rowland and J. M. Lawson
Published 27 Aug 2012

It's almost certain that the profits you receive from these stocks are generated from all over the world and not just from the United States. If you decide to make an international stock fund part of your investment strategy, bear in mind that ownership of international stocks introduces an element of currency risk into the equation. Currency risk is the idea that even though a group of companies are very profitable, those profits may be in another currency that is losing value compared to your home currency. Thus, the foreign profits may not translate into significant gains where you live if the U.S. dollar is strong and other currencies are weak.

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They are a classic case of heads they win, tails you lose. Callable bonds offer no advantages to investors seeking protection from falling interest rates and should be avoided. Therefore, callable bonds offer no advantages to investors seeking protection from falling interest rates and should be avoided. Currency Risk Currency risk only applies to bonds issued in a foreign currency. Whereas U.S. Treasury bonds pay you in U.S. dollars, Japanese bonds pay in yen, British bonds in pounds, and so on. The problem with bonds issued in another currency is that if you live in the United States, you spend your money in dollars, not yen (or pounds).

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Long-term Treasury Bonds are appropriate for the Permanent Portfolio for the following reasons: They have no default risk. Their long maturity provides maximum volatility to profit from periods of deflation. They are nominal (fixed rate) bonds, meaning they do not have inflation adjustments built-in. They avoid other bond problems such as credit risk, political risk, and currency risk. Bonds to Buy Any long-term nominal U.S. Treasury bond with 25 to 30 years to maturity is appropriate for the Permanent Portfolio. Investors will not be holding them for 25 to 30 years, though. To maintain the desired volatility within the Permanent Portfolio's bond allocation, investors will sell a treasury bond when it reaches 20 years to maturity, and then purchase a new 25- to 30-year bond to replace it.

Principles of Corporate Finance
by Richard A. Brealey , Stewart C. Myers and Franklin Allen
Published 15 Feb 2014

If the value of that currency declines before payment is made, the company may suffer a large loss. You want to take the currency risk into account, but you also want to give the sales force as much freedom of action as possible. Notice that Outland can insure against its currency risk by selling the foreign currency forward. This means that it can separate the problem of negotiating sales contracts from that of managing the company’s foreign exchange exposure. The sales force can allow for currency risk by pricing on the basis of the forward exchange rate. And you, as financial manager, can decide whether the company ought to hedge.

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Equally, it would be foolish for Roche to reject a good project just because management is pessimistic about the dollar. The company would do much better to go ahead with the project and sell dollars forward. In that way, it would get the best of both worlds.18 When Roche ignores currency risk and discounts the dollar cash flows at a dollar cost of capital, it is implicitly assuming that the currency risk is hedged. Let us check this by calculating the number of Swiss francs that Roche would receive if it hedged the currency risk by selling forward each future dollar cash flow. We need first to calculate the forward rate of exchange between dollars and francs. This depends on the interest rates in the United States and Switzerland.

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All that remains is to discount the Swiss franc cash flows at the 9.9% risk-adjusted discount rate: Everything checks. We obtain exactly the same net present value by (a) ignoring currency risk and discounting Roche’s dollar cash flows at the dollar cost of capital and (b) calculating the cash flows in francs on the assumption that Roche hedges the currency risk and then discounting these Swiss franc cash flows at the franc cost of capital. To repeat: When deciding whether to invest overseas, separate out the investment decision from the decision to take on currency risk. This means that your views about future exchange rates should NOT enter into the investment decision.

All About Asset Allocation, Second Edition
by Richard Ferri
Published 11 Jul 2010

A well-diversified portfolio includes all investable regions of the world. Investing internationally offers diversification benefits, although is not without added risk. Foreign stock prices tend to be more volatile than U.S. stock prices. The extra volatility is a product of many variables, including (1) foreign currency risk caused by a strengthening of the U.S. dollar, (2) political risk caused by government action or inaction, (3) trading and custody 127 CHAPTER 7 128 risk caused by exchange restrictions on nondomestic investors, (4) regulatory risk caused by a lack of oversight and a weak judicial system, and (5) information risk caused by a lack of disclosure by foreign companies.

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Because of all the extra risks involved, diversification is the key to international equity investing. No one knows which country will outperform the global markets in the near term, or whether the U.S. dollar will strengthen or weaken. Accordingly, investors would be wise to consider owning a small slice of every country and rebalancing their global exposures annually. CURRENCY RISK Currency fluctuations play an important role in the risk and return of international investments. When U.S. investors buy foreign stocks and stock funds, they are also converting dollars into a foreign currency. Changes in the value of that currency relative to the dollar will affect the total loss or gain on the investment.

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CHAPTER SUMMARY The international equity markets provide unique diversification opportunities for U.S. investors. The opportunities extend from established developed markets to emerging countries and from small-cap stocks to global giants. Unfortunately, excess return International Equity Investments 145 from international investing is not without risk. Foreign stocks are subject to currency risk, political risk, trading and custody risk, and regulatory risk, among others. An understanding of these risks is important during difficult market conditions. The MSCI EAFE Index is a widely used benchmark for international investors. While the index is a convenient single measure by which to judge the level of all developed-market large-cap stocks, the shifting market weight of countries within the index does not make for a good investment.

Smarter Investing
by Tim Hale
Published 2 Sep 2014

An allocation in the region of 10% is not unreasonable. Anything less than 5% risks fiddling around the edges. Issue 5: Non-GBP currency exposure As an extension to the home bias issue above, owning assets outside your home market, i.e. non-UK assets for a UK sterling-based investor, exposes you to currency risk. To keep things simple, let us consider an investment in the US equity market. You in fact own two assets: the underlying ownership in a number of US companies and the US dollar. Imagine that US equities rise by 10%. For a US dollar-based investor, their return is that 10%. For a UK investor, they will receive the 10% plus the change in value of these assets depending on whether pound sterling has strengthened or weakened against the dollar.

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Third, currencies tend to be uncorrelated to equities in particular and thus provide some potential diversification benefit in an equity-oriented portfolio. They also tend to have low correlations between each other. Finally, currency movements have volatility more akin to equities than bonds. How do you handle currency risk? The easy starting point is to avoid currency exposure in your defensive asset classes by owning GBP-denominated bond assets, e.g. index-linked gilts. If you happen to own any global bond exposure, this should be fully hedged (this should be done at the fund level by the fund manager). You want to avoid the equity-like volatility of currency being mixed in with your low-volatility assets.

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You want to avoid the equity-like volatility of currency being mixed in with your low-volatility assets. Table 7.3 To hedge or not to hedge? – that is the question When it comes to your equity exposure (and other risky assets) you could, like many institutional investors, take on the currency risk as a means of diversifying the portfolio. Countless papers have been written on the optimal level of hedging currency exposure, but at the end of the day it comes down to a practical issue. Virtually all global and country equity funds are unhedged, i.e. you will suffer the full impact of any currency movements, which could be in your favour or against you.

When the Money Runs Out: The End of Western Affluence
by Stephen D. King
Published 17 Jun 2013

Internationally, Spain's fiscal position was, in 2012, better than the UK's yet, thanks to the constraints imposed by the eurozone, its borrowing costs were shockingly high. International investors were happier to flock to the ‘underwritten’ bonds of the US and the UK, notwithstanding possible long-term currency risk. If quantitative easing fails to deliver a lasting recovery in economic activity, it shifts from being part of the solution to becoming part of the problem. It provides an incentive to governments to borrow excessively, it perversely induces risk-averse behaviour among financial investors and it may even lead to a higher cost of borrowing within the private sector.

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As repaying debt is a form of saving, Japan has inevitably run repeated current account surpluses over the years, a consequence of persistently weak domestic demand. As a result, Japanese interest rates have remained remarkably low, allowing international investors – at least those prepared to put currency risk to one side – to borrow remarkably cheaply in yen and reinvest the proceeds elsewhere. That money helped fund excessive borrowing in other parts of the world. Germany offers another variant on the surplus story. Its financial system can hardly be described as rudimentary, its companies are not facing huge debts and its households, if they wanted to, could presumably spend freely.

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Those companies would, in turn, look for other ways of making money, including riskier, but ineffectively regulated, areas of financial endeavour. A home bias would also make life much more difficult for those countries acutely dependent on foreign funding to make ends meet. This is most obviously the case within the eurozone where, although there is no explicit currency risk, lingering fears of an eventual break-up have contributed to huge variations in borrowing costs. An unlucky resident living in Brennero faces a significantly higher cost of borrowing than his more fortunate counterpart in Brenner even though they live just a few metres away from each other in the same town: Brenner/Brennero just happens to sit on the border between Austria, which enjoys low interest rates, and Italy, which suffers from high interest rates.

The New Science of Asset Allocation: Risk Management in a Multi-Asset World
by Thomas Schneeweis , Garry B. Crowder and Hossein Kazemi
Published 8 Mar 2010

Since equity prices are expected have a positive return in the long run, higher exposure to this risk should lead to higher return. ■ Interest risk: This is also a fairly well understood source of risk and it mostly affects fixed income instruments and equity prices of financial institutions. ■ Currency risk: Positions denominated in foreign currencies have direct exposure to this source of risk. However, currency risk is not one of those risks that should contribute to a higher return on a portfolio. This means that if the hedging cost is zero, one may consider eliminating this risk. ■ Commodity risk: Investment in commodities has become an increasingly important asset class in recent years.

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But performance alpha is all about properly measured return relative 47 Alpha and Beta, and the Search for a True Measure of Manager Value Dominant Paradigm: 1960 –2000 Traditional Assets Emerging Paradigm: 2000–Present Alternative Investments Traditional Assets Alternative Investments Beta Return Beta Return Beta Return Beta Return Alpha Return Alpha Return Alpha Return Alpha Return Traditional Assets Alternatives Stock Gov Bond Corp Bonds Traditional and Modern Alpha Alpha Alpha Alpha Beta Beta Beta Beta Equity Risks EXHIBIT 3.2 Interest Rate Risks Interest Rate and Multi-Factor Credit Risks Risks Changing Importance of Alpha and Beta in Return Estimation to a benchmark. For traditional portfolios such as mutual funds the multifactor models discussed above tend to do a reasonable job. Of course, the set of factors may be expanded to include factor portfolios representing risks such as inflation, interest rate, or currency risks. Unfortunately, when it comes to actively managed portfolios that have broad mandates (e.g., hedge funds or CTAs), we have no simple method for establishing this benchmark except under very restrictive situations. But at the very least, we do know that investment decisions involve some risk and that even similar investment strategies often entail different risk exposures (e.g., leverage), so the riskless rate is probably not appropriate as a performance benchmark for hedge funds.

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Further, in other cases variance may represent only one dimension of the risk. For instance, risk of exposure to unexpected increases in inflation cannot be measured by the variance of the portfolio. Of course, there are many other dimensions to risk (e.g., interest rate risk, credit risk, and currency risk). However, inflation risk poses a special case because it affects real returns; that is, a portfolio with fairly stable nominal return could have a very volatile real return during an inflationary period. In fact, it can be argued that no single variable can ever serve as an accurate measure of total risk. 

DIY Investor: How to Take Control of Your Investments & Plan for a Financially Secure Future
by Andy Bell
Published 12 Sep 2013

Some but not all investments are protected by the Financial Services Compensation Scheme (covered in more detail in Chapter 17). Shortfall risk – you need to consider the possibility that you don’t meet your investment objectives within the time frame you have set yourself. Currency risk – if you live in the UK and invest in only UK-denominated assets then you won’t need to worry about a currency risk. But if you are saving to repay a mortgage on your holiday home in Spain, then this is a very real risk. Liquidity risk – this is most relevant when investing in obscure investments. You need to ensure you can easily sell your investment when you need to.

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In fact, investing overseas will not only give you access to some of the world’s dynamic manufacturing and commodity-based economies, it will also help dampen down volatility in your overall portfolio. This is because different economies around the world are rarely at the same place in the investment cycle at exactly the same time. But there are risks to investing overseas, the most obvious one being currency risk. If your US shares rise by 20 per cent, but the dollar depreciates 20 per cent against sterling, then you have made nothing. Worse still is if both your US shares and the dollar fall 20 per cent, in which case you can end up seriously out of pocket. When it comes to emerging markets, while they may be more volatile in the short term, the conventional wisdom is that developing economies’ currencies are likely to strengthen against sterling in the coming decades, meaning UK investors will get an exchange rate kicker on their equity returns.

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Appendix Annuity factors for capped drawdown Source: Government Actuary’s Department Index AER (annual equivalent rate) Alternative Investment Market (AIM), 2nd, 3rd, 4th, 5th, 6th, 7th annuities, 2nd, 3rd, 4th, 5th, 6th guaranteed annuity rates income drawdown or lifetime, 2nd tax asset allocation, 2nd, 3rd, 4th bankruptcy banks, 2nd, 3rd, 4th bank accounts see cash fixed-rate bonds, 2nd, 3rd Bed and breakfast, 2nd Bed and ISA, 2nd Bed and SIPP Bed and spouse bonds see corporate bonds and gilts borrowing, 2nd, 3rd building societies accounts see cash fixed-rate bonds, 2nd, 3rd PIBS, 2nd buyer beware, 2nd Canadian shares capital gains tax, 2nd annual exemption, 2nd, 3rd, 4th, 5th, 6th, 7th Bed and breakfast, 2nd Bed and ISA, 2nd Bed and SIPP Bed and spouse corporate bonds Dealing Account, 2nd death equities, 2nd ETFs, 2nd exempt assets, 2nd funds, 2nd gifts to spouse or civil partner, 2nd, 3rd gilts investment trusts, 2nd ISAs, 2nd, 3rd, 4th, 5th, 6th losses, 2nd, 3rd, 4th rates of, 2nd, 3rd SIPPs, 2nd, 3rd, 4th, 5th takeovers venture capital trusts capital protection funds cash, 2nd, 3rd, 4th, 5th best-buy savings accounts bonus rates cash/money market funds, 2nd, 3rd inflation risk, 2nd investment platforms, 2nd, 3rd, 4th, 5th, 6th ISAs, 2nd, 3rd, 4th, 5th, 6th, 7th, 8th, 9th merged banks and building societies, 2nd NS&I, 2nd overseas banks security of cash accounts, 2nd caveat emptor (buyer beware), 2nd charges and costs Bed and ISA bond funds bonds, retail corporate cash funds comparison sites: pricing of platforms, 2nd equities, 2nd, 3rd, 4th ETFs, 2nd, 3rd, 4th funds see charges under funds investment trusts, 2nd, 3rd ISAs, 2nd, 3rd, 4th, 5th Level 2 market data re-registration, 2nd SIPPs, 2nd, 3rd, 4th stakeholder pensions tracker funds children civil partner, 2nd, 3rd, 4th gifts to, 2nd, 3rd closed-end funds, 2nd investment trusts see separate entry commercial property, 2nd, 3rd, 4th SIPPs, 2nd, 3rd company pension schemes, 2nd final or career average salary scheme, 2nd, 3rd contracts for difference (CFDs) corporate bonds and gilts, 2nd, 3rd, 4th, 5th, 6th, 7th funds, 2nd, 3rd, 4th, 5th gilts, 2nd, 3rd, 4th, 5th, 6th, 7th, 8th, 9th, 10th, 11th history of mechanics of buying, holding and selling research, 2nd risks of bonds and impact on value, 2nd, 3rd tax, 2nd terminology costs see charges and costs Crown employees, 2nd currency risk, 2nd de-rampers Dealing Account, 2nd, 3rd, 4th Bed and breakfast Bed and ISA, 2nd Bed and SIPP charges investment platforms, 2nd, 3rd, 4th, 5th, 6th, 7th, 8th joint names tax, 2nd, 3rd what you can invest in, 2nd, 3rd, 4th workings of death annuities, 2nd SIPPs, 2nd tax, 2nd defined benefits/final salary schemes, 2nd, 3rd defined contribution/money purchase schemes company scheme SIPP see separate entry diary notes, 2nd directors’ share purchases and sales discount brokers, 2nd diversification, 2nd, 3rd dividends, 2nd, 3rd, 4th, 5th dividend yield ratio, 2nd investment trusts payout ratio reinvesting, 2nd, 3rd, 4th, 5th, 6th tax, 2nd, 3rd, 4th, 5th, 6th, 7th, 8th divorce double taxation agreements, 2nd DYOR (Do Your Own Research) efficient market hypothesis emerging markets, 2nd, 3rd, 4th, 5th, 6th, 7th emigration emotional investing, avoiding, 2nd employment contracts EMS (exchange market size), 2nd enterprise investment schemes (EISs), 2nd, 3rd equities, 2nd, 3rd, 4th, 5th AIM-listed, 2nd, 3rd, 4th, 5th, 6th, 7th charges, 2nd, 3rd, 4th convertibles dividends, 2nd, 3rd, 4th, 5th, 6th, 7th, 8th, 9th exchange market size (EMS) financial ratios, 2nd, 3rd FTSE 100, 2nd, 3rd FTSE 250/mid-cap stocks FTSE 350 FTSE SmallCap history of Level 2 market data, 2nd liquidity, 2nd, 3rd open offer ordinary shares overseas markets, 2nd, 3rd preference shares, 2nd price, 2nd research, 2nd, 3rd, 4th rights issues risks of settlement period shareholder perks, 2nd spreads, 2nd stop loss and limit orders takeover tax, 2nd, 3rd, 4th, 5th tips in financial press, 2nd, 3rd, 4th types who’s who is trading process ethical investor ex-dividend date exchange market size (EMS), 2nd exchange-traded funds (ETFs), 2nd, 3rd, 4th, 5th, 6th, 7th costs and charges, 2nd, 3rd, 4th default history of major players mechanics of buying and selling ‘reporting status’ risks tax, 2nd websites exchange-traded products (ETPs), 2nd, 3rd ETFs see exchange-traded funds executive pension plans, 2nd exit charges: ISAs final or career average salary schemes, 2nd, 3rd financial advisers, 2nd, 3rd, 4th, 5th, 6th, 7th Financial Conduct Authority (FCA) financial crisis, 2nd Financial Ombudsman Service financial ratios, 2nd, 3rd, 4th Financial Services Compensation Scheme (FSCS), 2nd, 3rd, 4th, 5th France, 2nd FTSE 100, 2nd, 3rd FTSE 250/mid-cap stocks FTSE 350 FTSE SmallCap fund supermarkets, 2nd funds, 2nd, 3rd, 4th changes to structure of charges and costs, 2nd, 3rd, 4th, 5th, 6th, 7th, 8th, 9th, 10th, 11th, 12th, 13th ‘clean’ and ‘dirty’ share classes, 2nd, 3rd, 4th, 5th, 6th, 7th conversions, share class fraud history information overload insolvency of fund manager mechanics of buying, holding and selling money market/cash, 2nd, 3rd multi-manager negligence OEICs, 2nd, 3rd, 4th, 5th, 6th, 7th, 8th, 9th, 10th, 11th, 12th, 13th, 14th, 15th, 16th passive or active management performance fees RDR, 2nd, 3rd, 4th, 5th, 6th, 7th sectors share classes, 2nd, 3rd, 4th, 5th, 6th, 7th soft-closing star fund managers, 2nd, 3rd tax, 2nd, 3rd, 4th types of unit trusts, 2nd, 3rd, 4th, 5th, 6th, 7th, 8th, 9th, 10th, 11th, 12th, 13th valuation point, 2nd websites, 2nd, 3rd see also tracker funds Funds & Shares Account see Dealing Account gearing/borrowing, 2nd, 3rd General Investment Account (GIA) see Dealing Account Germany gilts/government bonds see corporate bonds and gilts Google alerts gross rate (interest) group personal pension schemes growth funds guaranteed annuity rates holiday homes, 2nd hyperbolic discounting incapacity/serious ill-heath and SIPPs income drawdown from SIPPs, 2nd, 3rd, 4th capped, 2nd, 3rd flexible, 2nd, 3rd, 4th, 5th income funds income tax bonds and gilts dividends, 2nd, 3rd, 4th, 5th EISs, 2nd funds gifts to spouse or civil partner interest income, 2nd, 3rd investment trusts, 2nd onshore life insurance investment bonds pension income venture capital trusts index-linked gilts, 2nd, 3rd inflation, 2nd, 3rd, 4th, 5th cash on deposit, 2nd index-linked gilts, 2nd, 3rd inflation-linked corporate bonds inheritance tax, 2nd, 3rd, 4th AIM shares, 2nd Junior ISAs SIPPs, 2nd, 3rd insolvency of product providers insurance interest cover ratio interest rates, 2nd bonds: effect of, 2nd cash ISAs, 2nd investment platforms, 2nd intestacy investment accounts Dealing Account see separate entry ISA see separate entry SIPP see separate entry investment grade bonds, 2nd, 3rd investment platforms, 2nd, 3rd, 4th cash accounts, 2nd, 3rd, 4th, 5th, 6th charges, 2nd, 3rd, 4th, 5th, 6th, 7th, 8th, 9th, 10th, 11th, 12th choosing complaints dividends, 2nd, 3rd equities, 2nd, 3rd, 4th, 5th, 6th, 7th, 8th, 9th ETFs initial charge on funds, 2nd, 3rd, 4th, 5th insolvency, 2nd investment trusts, 2nd, 3rd ISAs, 2nd, 3rd, 4th, 5th, 6th Level 2 market data management charge: commission to, 2nd, 3rd, 4th, 5th, 6th, 7th model portfolios, 2nd, 3rd, 4th overseas equities, 2nd, 3rd rebates to investors, 2nd, 3rd, 4th, 5th, 6th retail corporate bonds RNS alerts by email or text shareholder perks, 2nd SIPPs, 2nd, 3rd, 4th, 5th, 6th, 7th, 8th, 9th stop losses and limit orders venture capital trusts investment trusts, 2nd, 3rd, 4th, 5th, 6th, 7th borrowing/gearing, 2nd charges, 2nd, 3rd corporate actions discounts, 2nd, 3rd, 4th, 5th, 6th dividends exchange market size (EMS) history mechanics of buying and selling net asset value (NAV), 2nd performance premiums, 2nd, 3rd REITs research risks, 2nd sectors covered by share price split-capital trusts, 2nd, 3rd, 4th structure subscription shares tax, 2nd venture capital trusts, 2nd, 3rd warrants, 2nd investments advanced DIY investor cash see separate entry corporate bonds and gilts see separate entry equities see separate entry funds see separate entry investment trusts see separate entry ISAs: permitted, 2nd, 3rd, 4th, 5th, 6th, 7th SIPPs, 2nd, 3rd, 4th, 5th, 6th, 7th tracker funds see separate entry ISA (Individual Savings Account), 2nd, 3rd, 4th, 5th, 6th Bed and, 2nd cash, 2nd, 3rd, 4th, 5th, 6th, 7th, 8th, 9th charges, 2nd, 3rd, 4th, 5th finding a provider history of investment platforms, 2nd, 3rd, 4th, 5th, 6th Junior paying money in permitted investments, 2nd, 3rd, 4th, 5th, 6th, 7th SIPP or, 2nd, 3rd stocks and shares, 2nd, 3rd, 4th, 5th, 6th, 7th, 8th, 9th tax, 2nd, 3rd, 4th, 5th, 6th, 7th, 8th, 9th, 10th, 11th, 12th, 13th, 14th, 15th transferring existing, 2nd who can pay into why have workings of ISIN number junk bonds, 2nd, 3rd KIID (Key Investor Information Document) life expectancy, 2nd, 3rd, 4th life insurance investment bonds long-term buy and hold, 2nd long-term investing market makers, 2nd, 3rd medium-term investing model portfolios, 2nd, 3rd, 4th money market/cash funds, 2nd, 3rd money purchase schemes company schemes SIPP see separate entry Morningstar, 2nd National Insurance contributions SIPPs, 2nd, 3rd National Savings & Investments (NS&I), 2nd Newcits nominees, 2nd, 3rd objectives portfolio building occupational pension schemes see company pension schemes OEICs (open-ended investment companies) see funds onshore and offshore life insurance investment bonds open-ended funds exchange-traded funds (ETFs) see separate entry unit trusts and OEICs see funds ORB (Order Book for Retail Bonds), 2nd overseas banks overseas investments, 2nd, 3rd SIPPs overseas residents P/E ratio, 2nd, 3rd P60 form passive funds see tracker funds pensions annuities, 2nd, 3rd, 4th auto-enrolment into workplace bankruptcy calculators on internet final or career average salary schemes, 2nd, 3rd impact on fund of charges money purchase schemes see separate entry objectives overseas schemes SIPP see separate entry stakeholder, 2nd Pensions Advisory Service Pensions Ombudsman PEPs (Personal Equity Plans) performance fees, 2nd permanent interest bearing shares (PIBS), 2nd perpetual sub bonds (PSBs), 2nd personal pension schemes SIPP see separate entry political and regulatory risk portfolio construction, 2nd pound-cost averaging, 2nd property commercial see separate entry residential, 2nd, 3rd, 4th QROPS (Qualifying Recognised Overseas Pension Scheme) quantitative easing rampers rating agencies, 2nd, 3rd, 4th ratios, financial, 2nd, 3rd, 4th re-registration investment platforms ISAs SIPPs, 2nd Real Estate Investment Trusts (REITs) reckless caution regulatory and political risk resident abroad residential property holiday homes, 2nd REITs Retail Distribution Review (RDR), 2nd, 3rd, 4th, 5th, 6th, 7th, 8th retirement, 2nd pensions see separate entry rights issues risk appetite, 2nd objectives, strategy and risks, 2nd AIM shares building risk adjusted portfolio cash and inflation, 2nd corporate bonds and gilts, 2nd, 3rd, 4th, 5th equities, 2nd, 3rd, 4th ETFs FTSE SmallCap investment trusts, 2nd overseas equities pound-cost averaging, 2nd structured products RNS (Regulatory News Service) alerts by email or text salary sacrifice scrip dividend Section 32 plan, 2nd SEDOL number self assessment tax return, 2nd, 3rd, 4th shares see equities ‘shelf-space’ deals SIPP (Self-Invested Personal Pension), 2nd, 3rd, 4th, 5th Bed and benefits see SIPP, taking benefits from borrowing charges, 2nd, 3rd, 4th complaints contributions death and assets in, 2nd divorce full or full fat, 2nd, 3rd history investment platforms, 2nd, 3rd, 4th, 5th, 6th, 7th, 8th, 9th investments, 2nd, 3rd, 4th, 5th, 6th, 7th ISA or, 2nd, 3rd loans by overview, 2nd reasons to have or not recycling, 2nd salary sacrifice tax and SIPPs see separate entry transferring existing pensions into/out of see separate entry VAT SIPP, taking benefits from capped drawdown, 2nd, 3rd flexible drawdown, 2nd, 3rd, 4th, 5th incapacity, 2nd income drawdown, 2nd, 3rd, 4th, 5th, 6th, 7th lifetime allowance, 2nd lifetime annuities see annuities normal minimum pension age overview partial drawdown protected pension age protected tax-free lump sum protection from lifetime allowance serious ill-health small funds withdrawal tax on pensions tax-free lump sum, 2nd, 3rd, 4th transitional protection, 2nd smaller companies, 2nd, 3rd, 4th, 5th, 6th specialist funds split-capital trusts, 2nd, 3rd, 4th spouse, 2nd, 3rd, 4th, 5th gifts to, 2nd, 3rd income drawdown, 2nd spread betting stamp duty, 2nd, 3rd, 4th, 5th, 6th AIM shares ETFs, 2nd investment trusts star fund managers, 2nd stock transfer form stockbrokers, 2nd, 3rd stocks see equities stop loss and limit orders, 2nd strategies for investing, 2nd growth income long-term buy and hold, 2nd objectives, risk appetite and passive value structured products takeovers tax, 2nd, 3rd AIM shares Bed and breakfast, 2nd Bed and ISA, 2nd Bed and SIPP Bed and spouse Dealing Account, 2nd, 3rd death, 2nd dividends, 2nd, 3rd, 4th, 5th, 6th, 7th, 8th EISs, 2nd equities, 2nd, 3rd, 4th, 5th ETFs, 2nd funds, 2nd, 3rd, 4th gifts to spouse or civil partner, 2nd interest income, 2nd, 3rd, 4th, 5th investment trusts, 2nd ISA or SIPP, 2nd ISAs, 2nd, 3rd, 4th, 5th, 6th, 7th, 8th, 9th, 10th, 11th, 12th, 13th, 14th, 15th Junior ISAs and inheritance National Savings certificates onshore and offshore life insurance investment bonds overseas equities PIBS rebates of commission to investors, 2nd, 3rd REITs SIPPs see tax and SIPPs stamp duty see separate entry takeovers VAT, 2nd venture capital trusts, 2nd withholding tax and SIPPs, 2nd, 3rd, 4th, 5th, 6th Bed and SIPP bond income or gains contributions and tax relief, 2nd, 3rd, 4th death, 2nd enhanced protection, 2nd excess over lifetime allowance fixed protection interest on cash, 2nd, 3rd investments, 2nd pension income, 2nd serious ill-health tax-free lump sum, 2nd, 3rd, 4th, 5th unlisted shares TESSAs (Tax-Exempt Special Savings Accounts) time commitment tips in financial press, 2nd, 3rd, 4th total expense ratio (TER), 2nd, 3rd, 4th tracker funds, 2nd, 3rd, 4th, 5th, 6th active vs passive debate, 2nd emotion taken out of investing exchange-traded funds (ETFs) see separate entry indices, 2nd structure of transferring existing pensions into/out of SIPP charges and transfer penalty, 2nd defined benefits, 2nd guaranteed annuity rates in-specie transfers, 2nd issues to consider options at retirement overseas schemes partial transfers pensions in payment, 2nd protected pension age rules on pension transfers transitional protection, 2nd types of pension scheme with-profits investments, 2nd Trustnet, 2nd, 3rd, 4th UCIS (Unregulated Collective Investment Schemes), 2nd, 3rd, 4th UCITS (Undertakings for Collective Investments in Transferable Securities), 2nd, 3rd, 4th unit trusts see funds United States, 2nd unquoted shares SIPPs, 2nd, 3rd, 4th, 5th, 6th value investor VAT (value added tax), 2nd venture capital trusts (VCTs), 2nd, 3rd warrants, 2nd websites, 2nd, 3rd, 4th, 5th advanced DIY investor equities, 2nd, 3rd ETFs funds, 2nd, 3rd gilts investment trusts, 2nd ISAs PIBS pricing of platforms, 2nd retail corporate bonds risk-profiling tools savings accounts, 2nd PEARSON EDUCATION LIMITED Edinburgh Gate Harlow CM20 2JE United Kingdom Tel: +44 (0)1279 623623 Web: www.pearson.com/uk First published 2013 (print and electronic) © Andy Bell 2013 (print and electronic) The right of Andy Bell to be identified as author of this work has been asserted by him in accordance with the Copyright, Designs and Patents Act 1988.

Expected Returns: An Investor's Guide to Harvesting Market Rewards
by Antti Ilmanen
Published 4 Apr 2011

Table 2.1 showed that emerging market debt outperformed all the assets in Table 3.2, earning double-digit returns (11.5%) but due to the short histories available for this market sector, I will not study it further. Hedged global government bonds had an SR near one, partly due to the yield decline, but also because they enjoyed several structural benefits. Diversifying across several countries, hedging away volatile currency risk, and holding intermediate-duration rather than long-duration bonds all help reduce volatility. Adjusting for the annualized gains from sharp yield falls between 1985 and 2009, the SR for hedged global government bonds would be close to 0.5 instead of the 0.85–0.99 in Table 3.2, but this is still far higher than the 0.11 SR documented for a composite of unhedged long-duration bonds since 1900.

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Combining carry with other indicators One idea is to use a broader measure of expected return than carry. As an accounting identity, cross-country yield spreads (carry) reflect some combination of the market’s expectations of future spot rate changes (EΔS) and ex ante excess return (required currency risk premium). Conversely, ex ante excess return reflects both carry and E(ΔS). If we can isolate the unobservable E(ΔS) we can better capture ex ante excess return. The random walk hypothesis states that E(ΔS) = 0, so carry equals expected excess return. Various theoretical models imply other drivers of E(ΔS).

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Combining a variety of economic and financial indicators that have been able to predict subsequent devaluations has been an especially popular exercise in emerging markets analysis. 13.4 WHY DO CARRY STRATEGIES WORK? Empirical evidence showing high historical returns or predictability of returns can always be interpreted in different ways. Main proposed explanations in the past 30 years involve currency risk premia, irrational expectations, and peso problems. My interpretation straddles all three but is closest to a risk premium story. I argue that currency carry strategies can be characterized as selling lottery tickets that pay off (to the buyer) in really bad times. This class of trading strategies performs especially well in prolonged good times.

Mathematics of the Financial Markets: Financial Instruments and Derivatives Modelling, Valuation and Risk Issues
by Alain Ruttiens
Published 24 Apr 2013

Unlike IRSs, CRSs involve both an exchange of interest cash flows and an exchange of cash flows in the notional principal. Indeed, the whole series of (debt or asset) cash flows has here to be “converted” into the other currency, to avoid currency risk. 2. In a CRS, the initial spot exchange rate (EUR/NOK @ 8.8000) is applied to the whole set of transactions, up to the end of the operation. The reason is straightforward: the company entering into such a swap is precisely aiming to cancel out its exchange risk caused by a borrowing in a foreign currency. Actually, the currency risk is supported by the swap desk of the bank counterpart: as a market maker, it is his job to manage such a risk. 3. Since cash flows are exchanged in two different currencies, this CRS can be a fixed/fixed rates swap, where fixed interests payments in currency X are exchanged against fixed interest payments in currency Y, as in the vast majority of such transactions.

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That is, of the liquidity of the government bond market, rather than the one of the swap market, by far more liquid. In other words, the spread is not equal over the maturities range. 6.6 PRICING OF A CRS SWAP The IRS pricing methodology is still applicable, with two major differences: 1. CRS normally also involves exchange of principal notional amounts (since a currency risk is introduced, it makes sense that if one takes care to convert interest cash flows from one currency into another one, it is worth one's while to also convert the cash flows in principal). 2. The swap pricing involves two yield curves instead of one, that is, the yield curves corresponding to each of the currencies involved in the swap.

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Since the sum of each of the PVs of respective cash flows will be expressed in its own currency, the condition of net PV = 0 is verified if the all series of cash flows of currency 1 is converted into currency 2 at a unique exchange rate, namely the spot rate prevailing at the swap conclusion. As a consequence, a counterparty facing a series of future revenues (in principal or in interest) in a given currency may enter into a CRS to convert them into another currency (normally, his own), in order to fully cover its currency risk. The CRS, appearing as a series of forward transactions, is actually using a single (spot) currency exchange rate and involving two series of successive interest rates (through the impact of successive discount factors). This happens to be the contrary of a set of forward operations, which will use different forward exchange rates, originated by two series of successive interest rates.

Reset: How to Restart Your Life and Get F.U. Money: The Unconventional Early Retirement Plan for Midlife Careerists Who Want to Be Happy
by David Sawyer
Published 17 Aug 2018

Nobel prize-winning economist Harry Markowitz’s modern portfolio theory was the first to show that a diversified portfolio can improve performance and decrease risk over long periods: “Modern Portfolio Theory (MPT) – Investopedia.” toreset.me/385b. [386] one-stop options: figures correct as of 7th June 2018. [387] helps with currency risk: “Currency risk – Monevator.” 4 Jul. 2013, toreset.me/387. [388] 23-country MSCI World Index: “Featured index – World – MSCI.” toreset.me/388. [389] “Betterment…in preference to Vanguard”: Betterment Cranks up Features and Costs – is it Still Worthwhile?.” 1 Feb. 2017, toreset.me/389. [390] “includes both value and small-cap tilts”: “The Nobel Prize-Winning Investing Research Behind Betterment.” 7 Nov. 2013, toreset.me/390

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Here are a few one-stop options[386], in order of preference: A. Vanguard LifeStrategy® 100% Equity Fund – Accumulation Fund charge: 0.22%. MO: globally diversified portfolio, including emerging markets, mainly comprising Vanguard index trackers and Exchange-Traded Funds (ETFs). It also has a 25% UK weighting, which helps with currency risk[387], assuming you’re going to spend most of your life spending pounds. This is a passive fund where rebalancing is taken care of by the fund manager. If you want ultimate simplicity or you’re setting up a set-and-forget portfolio for someone else – who you know will never take the blindest bit of interest in it – choose this one.

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A good, cost-effective two-fund solution, but you do sacrifice the exposure to emerging markets (including China and India) that Vanguard’s one-stop LifeStrategy 100 fund gives you. C. Vanguard FTSE All-World UCITS ETF (VWRL) Fund charge: 0.25%. MO: a well-diversified (3,129 stocks) passive all-world fund, including emerging markets. If you’re not bothered about currency risk (6.1% UK weighting) and want a diversified global fund (including emerging markets), look no further. Personally, the 0.25% charge and meagre UK exposure puts me off – I’d go for the LifeStrategy 100 every day of the week. D. Vanguard Target Retirement [TRF] 2065 Fund – Accumulation Fund charge: 0.24%.

The Intelligent Asset Allocator: How to Build Your Portfolio to Maximize Returns and Minimize Risk
by William J. Bernstein
Published 12 Oct 2000

Hedging: Currency Effects on Foreign Holdings The holder of a foreign stock or bond is subject not only to the intrinsic risks of that security but also to the additional risk of currency fluctuation. For example, a bond denominated in U.K. pounds will rise or fall in value along with the value of that currency relative to the dollar. This currency risk can be eliminated (hedged) by selling forward a pound contract in the futures market at nominal cost. In the real world, you must first buy something before you sell it. But in finance, you can often sell something first before buying it back later; this is called selling forward (and is similar to “shorting” a stock). 

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Ranges between ⫹1 (an above/below average return for asset A is always associated with an above/below average return on asset B) and ⫺1 (an above/below average return for asset A is always associated with a below/above average return on asset B). A correlation of zero indicates that the returns of assets A and B are unrelated. Coupon: The regular interest payment made to the bondholders during the life of the bond. A coupon of 6% on a $1000 bond means that $60 interest will be paid, usually as two semiannual $30 payments. Currency risk/return: The risk and return associated with holding a foreign security caused by fluctuations in the exchange rate. Cyclical stock: A security that is particularly sensitive to economic conditions, such as an aircraft or paper company (as opposed to a food or drug manufacturer, whose profits and sales are not sensitive to economic conditions).

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International Publishing, 1993. 197 This page intentionally left blank Index Active management, 95–99 Alpha, 89–90, 98 American Association of Individual Investors, 177 American Depositary Receipts (ADRs), 78 Annualized return, 2–3, 5 Asset Allocation (Gibson), 176 Asset-allocation funds, 162–164 Asset-allocation strategy, 26, 143–174 asset-allocation funds in, 162–164 bonds in, 151–152 determining allocation, 143–145, 153–154 dynamic, 137–139, 163–164 executing plan for, 154–161 investment resources for, 175–180 key points for, 173–174 retirement accounts and, 153–154 stock indexing in, 145–151 taxes and, 145 Treasury ladders in, 152 (See also Asset classes; Diversification; Optimal asset allocation) Asset classes: 1926–1998, 9–18, 42 1970–1998, 19–21 in asset allocation process, 76–83 correlation coefficients among, 183–186 law of diminishing returns and, 76 standard deviation of annual returns, 6 Asset variance, 109 Autocorrelation, 106–108 Average return, 2–3 Backtesting, 72 Barra indexes, 99, 126 Baruch, Bernard, 52 Behavioral finance, 139–142 defined, 139 overconfidence and, 139–140 recency and, 47–48, 52, 53, 58–59, 140–141 risk aversion myopia and, 141–142 Benchmarking: alpha in, 89–90, 98 with S&P 500, 60, 78, 79, 86, 88–90, 145 Benzarti, Shlomo, 131 Bid-ask spread, 91, 92, 93, 96 Binomial distribution function, 2, 7 Bogle, John, 175–176 Bond funds, 151–152 Bonds: in asset allocation strategy, 151–152 common stock versus, 24 historical returns of, 23, 24 standard deviation of annual returns, 6 Book value (P/B ratio): data on ranges of, 114 in new era of investing, 124 in value investing, 112–113, 120 variation in returns and, 116–117 Brinson, Gary, 176 Buffett, Warren, 118 Calibration, 140 Capital gains capture, 102, 108 Center for Research in Security Prices, 76 Charles Schwab, 100 Clayman, Michelle, 118 Coin-toss option, 1–5, 29–36, 169 Commissions, 90–91, 92, 96, 152 Common Sense on Mutual Funds (Bogle), 175–176 199 200 Index Common stocks: 1926–1998, 4, 13–16, 17, 42–45 discounted dividend method and, 23–24, 26, 127–132 growth, 97, 112, 117 historical returns on, 23–25 large-company, (See Large-company stocks) long bonds versus, 24 risks and returns of, 1–5 small-company (See Small-company stocks) standard deviation of annual returns, 5–8, 63, 65, 96 Company size: variation in returns and, 116–117 (See also Large-company stocks; Small-company stocks) Complex portfolios, 41–62 defined, 41 efficient frontier, 55–59, 64 foreign assets in, 46–53 professional versus small investors, 59–61 rebalancing, 59 return and risk plot, 41–45 risk dilution, 45–46 small versus big stocks in, 53–55, 75 Compound interest, 17 Constant allocation, 58 Contrarian approach, 59, 104 Contrarian Market Strategy (Dreman), 104 Conventionality, in asset allocation process, 78–79 Cooley, Philip L., 169 Corner portfolios, 65–71 Correlation, 36–40 among asset classes, 183–186 autocorrelation, 106–108 calculating, 39 defined, 37 foreign investments and, 46–53, 72–73 imperfect, 37 Correlation (Cont.): negative, 31, 37 overstating of diversification benefits, 71-74 of small stocks and large stocks, 53–55 zero, 31 Cost of capital, 132 Critical-line technique, 65 Currency risk, 132–137 Dimensional Fund Advisors (DFA), 20, 148, 149, 150, 164 analysis of fund performance 1970–1998, 86 bond funds, 152 global large company index, 74–75 moderate balanced strategy, 82 small-cap index, 54–55, 98–99, 100 Discount rate (DR), 127–130 Discounted dividend method: Glassman-Hassett model and, 127–132 nature of, 23–24, 26 Diversification, 19, 21, 144 benefits of, 33–36, 41–45, 71–74 impact on risk and return, 31–36, 63 international, 46–53, 72–75 overstatement of benefits of, 71–74 (See also Optimal asset allocation) Dividend yield: data on ranges of, 114, 115 market declines and, 166–167 in new era of investing, 124 in value investing, 113–115 Dividends: Dow dividend strategy, 116 growth of, 80 reinvesting, 115 REITs and, 145 Dodd, David, 176 Dollar cost averaging (DCA), 154–155, 159 Dow 36,000 (Glassman and Hassett), 127–132 Dow dividend strategy, 116 Dow Jones Industrial Average, 24–25, 26, 80 Index Dreman, David, 104, 117 Dunn’s law, 99–100 Duration risk, 165–167 Dynamic asset allocation, 137–139 defined, 137 market valuation and, 163–164 overbalancing in, 138 EAFE Index, 38, 39, 46–53, 100, 126 Earnings yield, 119 Econometrics of Financial Markets, The (Campbell, Lo, and MacKinlay), 107–108 Edleson, Michael, 155–159, 176 Efficient frontier, 55–59, 64 Efficient market hypothesis, 104–105, 118–119, 120 Efficient Solutions, 65–71, 181–182 Ellis, Charles, 94 Emerging markets, 49–50, 100, 147–148 European bonds, 152 European stocks, 19, 20, 25, 156 efficient frontier and, 55–59 hedging with, 133 mutual funds, 147 Excess risk, 12–13 Exchange traded funds (ETFs), 149, 151 Expense ratio (ER), 90, 91, 92, 96, 146 Expert opinion, 74 Fama, Eugene, 98, 109, 116–117, 120–124, 148 Financial calculators, 5, 168 Fisher, Kenneth, 109 Fixed asset allocation, 109 Forbes, Malcolm, 104 Foreign assets: correlation and, 47, 72–73 EAFE Index, 38, 39, 46–53, 100, 126 hedging with, 132–137 Foreign tax credit, 161 Forward premium, 135 Forward rates, 135–136 Fraud, investment, 4 French, Kenneth, 98, 116–117, 120–124, 126, 148 201 Fund of funds, 161 Future optimal portfolio composition, 64 Gibson, Roger, 176 Glassman, James, 127–132 Global Investing (Ibbotson and Brinson), 176 Goetzmann, William, 49–50 Gold stocks (See Precious metals equity) Graham, Benjamin, 24, 93, 106, 112, 117, 118, 119–120, 125, 176–177 Graham, John, 104 Grant, James, 178 Great Depression, 14, 19, 112, 166 Growth investing: defined, 112, 118 efficient market theory and, 118–119 value investing versus, 117, 118–120 Growth stocks, 97, 112, 117 Harvey, Campbell, 104 Hassett, Kevin, 127–132 Haugen, Robert A., 119, 176 Hedging, 132–137 cost of, 135–136 defined, 132 extent of, 136–137 Historical optimal allocation, 64 Hubbard, Carl M., 169 Hypothetical optimal allocation, 64 Ibbotson, Roger, 176 Ibbotson Associates, 9–10, 23, 41–42, 44, 93, 178 Imperfect correlation, 37 In sample, 87 In Search of Excellence (Peters), 118 Indexing, 94–103 advantages over active management, 95–99 defined, 95 international, 100 mutual funds in, 145–151, 174 202 Index Indexing (Cont.): of small-company stocks, 101, 102, 148–149 theoretical advantage of, 95–96 Inflation, and real return, 80, 168 Institutional investors: evaluation of, 123–124 market-impact costs and, 86–90, 91–92, 96 pension funds, 103 persistence of investment performance, 90 small investors versus, 59–61 (See also Benchmarking; Mutual funds) Intelligent Investor, The (Graham), 106, 176–177 International diversification: case against, 72 correlation and, 46–53, 72–73 with small stocks, 74–75 sovereign risk and, 72 Inverse correlation, 31, 37 Investment climate, 124–127 Investment Company Institute, 103 Investment fraud, 4 Investment newsletters, 104–105 January effect, 92–94 Japanese bonds, 152 Japanese stocks, 19, 20, 25, 38, 39, 40, 48, 55, 56, 57, 59, 160 Jensen, Michael, 86 Jorion, Phillipe, 49–50 Keynes, John Maynard, 18 Lakonishok, Josef, 120 Large-company stocks, 13 indexing advantage with, 96, 97–98 small-company stocks versus, 53–55, 75 Law of diminishing returns, 76 Lehman Long Bond Index, 162 Local return, 133 Long Term Capital Management, 7 Mackay, Charles, 178 Malkiel, Burton, 101–102, 109, 175 Market capitalization, 13 Market efficiency, 85–110 expenses of funds and, 90–92, 96, 146 indexing and, 94–101 investment newsletters and, 104–105 January effect, 92–94 market-impact costs and, 88–90, 91–92, 96 and persistence of investment performance, 85–88 random walk and, 101, 106–108 rebalancing and, 108–109 survivorship bias and, 101–102 taxes and, 102–103 Market-impact costs: extent of, 91, 92, 96 illustration of, 88–90 Market multiple (See P/E ratio) Market risk premium, 121, 122 Market timing, 104–105, 160 Market valuation, 111–115, 163–164, 174 Markowitz, Harry, 64–65, 71, 177–178 Maximum-return portfolios, 69 Mean reversion, 70, 107, 109 Mean-variance analysis, 44–45, 64–71, 181–182 Mean-variance optimizers (MVOs), 64–71, 181–182 Memoirs of Extraordinary Popular Delusions and the Madness of Crowds (Mackay), 178 Miller, Paul, 115 Minimum-variance portfolios, 65–69 Momentum investing, 101, 108, 109, 123 Money managers (See Institutional investors; Mutual funds) Money market, standard deviation of annual returns, 6 Morgan-Stanley Capital Indexes, 19–20, 133, 149 Index Morningstar: long-term returns, 21 Principia database, 61, 96–97, 101–102, 120, 163–164, 177 standard deviation and, 6, 19 MSCI World Index, 162 Multiple (See P/E ratio) Multiple-asset portfolios, 29–40 coin toss and, 36 correlation in, 36–40 diversification and, 31–36 simple portfolios versus, 31–36 Multiple change, 24 Mutual funds: asset-allocation, 162–164 bond, 151–152 exchange traded (ETFs), 149–151 expenses of, 90–92, 96, 146 hedging, 135 indexing with, 145–151, 174 standard deviation and, 6 supermarkets, 148 turnover of, 130–131 Vanguard Group, 97–100, 146–148, 149, 150, 152, 156, 161–163 MVOPlus, 65–71, 181–182 National Association of Real Estate Investment Trusts (NAREIT), 21 Negative correlation, 31, 37 New era of investing: components of, 124–127 Glassman-Hassett model and, 127–132 New Finance: the Case Against Efficient Markets (Haugen), 119, 176 Newsletters, investment, 104–105 Nonsystematic risk, 12–13 Normal distribution, 7 Oakmark Fund, 88–90 Optimal asset allocation, 63–83 asset-allocation funds in, 162–164 asset classes in, 76–78 calculation of, 64–71 conventionality and, 78–79 203 Optimal asset allocation (Cont.): correlation coefficients, 71–74 international diversification with small stocks, 74–75 risk tolerance and, 79–80, 143 three-step approach to, 75–83 Out of sample, 87 Overbalancing, 138 Overconfidence, 139–140 P/B ratio (See Book value) P/E ratio: data on ranges of, 113, 114 earnings yield as reverse of, 119 in new era of investing, 124 in value investing, 112, 119–120 Pacific Rim stocks, 19, 20, 21, 25, 55–59, 147, 156 Pension funds, 103 (See also Institutional investors) Perfectly reasonable price (PRP), 127–128 Performance measurement: alpha in, 89–90, 98 three-factor model in, 123–124 (See also Benchmarking) Perold, Andre, 141 Persistence of performance, 85–88 Peters, Tom, 118 Piscataqua Research, 103 Policy allocation, 59 Portfolio insurance, 141 Portfolio Selection (Markowitz), 177–178 Precious metals stocks, 19–20, 21, 48, 55, 57, 59 Price, Michael, 162 Professional investors (See Institutional investors) Prudent man test, 60 Random Walk Down Wall Street, A (Malkiel), 101–102, 175 Random walk theory, 106–108, 119 positive autocorrelation and, 106–108 204 Index Random walk theory (Cont.): random walk defined, 106 rebalancing and, 109 Raskob, John J., 16–17 Real estate investment trusts (REITs), 38, 40, 100, 145 defined, 19 index fund, 148 returns on, 19, 21, 25 Real return, 26, 80, 168, 170 Rebalancing: frequency of, 108–109 importance of, 32–33, 35–36, 59, 63, 174 and mean-variance optimizer (MVO), 65 overbalancing in, 138 random walk theory and, 109 rebalancing bonus, 74, 159–160 of tax-sheltered accounts, 159–160 of taxable accounts, 160–161 Recency effects, 47–48, 52, 53, 58–59, 140–141 Regression analysis, 89–90 Reinvestment risk, 23 Representativeness, 118 Research expenses, 92, 95 Residual return, 98 Retirement, 165–172 asset allocation for, 153–154 duration risk and, 165–167 shortfall risk and, 167–172 (See also Tax-sheltered accounts) Return: annualized, 2–3, 5 average, 2–3 coin toss and, 1–5 company size and, 116–117 correlation between risk and, 21 dividend discount method, 23–24, 26, 127–132 efficient frontier and, 55–58 expected investment, 26 historical, problems with, 21–27 Return (Cont.): impact of diversification on, 31–36, 63 market, 168 real, 26, 80, 168, 170 return and risk plot, 31–36, 41–45 risk and high, 18 uncorrelated, 29–31 variation in, 116–117 Risk: common stock, 1–5 correlation between return and, 21 currency, 132–137 duration, 165–167 efficient frontier and, 55–58 excess, 12–13 high returns and, 18 impact of diversification on, 31–36, 63 nonsystematic, 12–13 reinvestment, 23 return and risk plot, 31–36, 41–45 shortfall, 167–172 sovereign, 72 systematic, 13 (See also Standard deviation) Risk aversion myopia, 141–142 Risk dilution, 45–46 Risk-free investments, 10, 15, 152 Risk-free rate, 121 Risk time horizon, 130, 131, 143–144, 167 Risk tolerance, 79–80, 143 Roth IRA, 172 Rukeyser, Lou, 174 Rule of 72, 27 Sanborn, Robert, 88–90 Securities Act of 1933, 92–93 Security Analysis (Graham and Dodd), 93, 118, 125, 176 Selling forward, 132–133 Semivariance, 7 Sharpe, William, 141 Shortfall risk, 167–172 Siegel, Jeremy, 19, 136 Index Simple portfolios, 31–36 Sinquefield, Rex, 148 Small-cap premium, 53, 121, 122 Small-company stocks, 13–16, 25 correlation with large-company stocks, 53–55 efficient frontier and, 55–59 indexing, 101, 102, 148–149 international diversification with, 74–75 January effect and, 92–94 large-company stocks versus, 53–55, 75 “lottery ticket” premium and, 127 tracking error of, 75 Small investors, institutional investors versus, 59–61 Solnik, Bruno, 72 Sovereign risk, 72 S&P 500, 13, 38, 39, 55 as benchmark, 60, 78, 79, 80, 86, 88–89, 145 efficient frontier, 56–57 Spiders (SPDRS), 149 Spot rate, 135 Spread, 91, 92, 93, 96 Standard deviation, 5–8 defined, 6, 63 limitations of, 7 of manager returns, 96 in mean-variance analysis, 65 Standard error (SE), 87 Standard normal cumulative distribution function, 7 Stocks, Bonds, Bills, and Inflation (Ibbotson Associates), 9–10, 41–42, 178 Stocks for the Long Run (Siegel), 19, 136 Strategic asset allocation, 58–59 Survivorship bias, 101–102 Systematic risk, 13 t distribution function, 87 Tax-sheltered accounts: asset allocation for, 153–154 rebalancing, 108–109, 159–160 (See also Retirement accounts) 205 Taxable accounts: asset allocation for, 153–154 rebalancing, 160–161 Taxes: in asset allocation strategy, 145 capital gains capture, 102, 108 foreign tax credits, 161 market efficiency and, 102–103 Technological change: historical, impact of, 125 in new era of investing, 125 Templeton, John, 164 Thaler, Richard, 131, 142 Three-factor model (Fama and French), 120–124 Time horizon, 130, 131, 143–144, 167 Tracking error: defined, 75 determining tolerance for, 83, 145 of small-company stocks, 75 of various equity mixes, 79 Treasury bills: 1926–1998, 10–11 returns on, 25–26 as risk-free investments, 10, 15, 152 Treasury bonds: 1926–1998, 11–13, 42–45 ladders, 152 Treasury Inflation Protected Security (TIPS), 80, 131–132, 172 Treasury notes, 11 Turnover, 95, 102, 130–131, 145 Tweedy, Browne, 148–149, 162, 176 Utility functions, 7 Value averaging, 155–159 Value Averaging (Edleson), 176 Value index funds, 145 Value investing, 77, 111–124 defined, 118 growth investing versus, 117, 118–120 measures used in, 112–114 studies on, 115–118 three-factor model of, 120–124 Value premium, 121–123 206 Index VanEck Gold Fund, 21 Vanguard Group, 97–100, 146–148, 149, 150, 152, 156, 161–163 Variance, 7, 108–109 mean-variance analysis, 44–45, 64–71, 181–182 minimum-variance portfolios, 65–69 Variance drag, 69 Walz, Daniel T., 169 Websites, 178–180 Wilkinson, David, 56, 57, 181–182 Williams, John Burr, 127 Wilshire Associates, 120, 147, 162 World Equity Benchmark Securities (WEBS), 149–151 z values, 87 Zero correlation, 31 About the Author William Bernstein, Ph.D, M.D., is a practicing neurologist in Oregon.

Corporate Finance: Theory and Practice
by Pierre Vernimmen , Pascal Quiry , Maurizio Dallocchio , Yann le Fur and Antonio Salvi
Published 16 Oct 2017

The main sources of this risk are: (1) loans, borrowings and current accounts denominated in foreign currencies, with their related interest charges; and (2) investments in foreign currencies. Taken as a whole, these risks express companies’ financial currency position. The third component of currency risk is accounting currency risk, which arises from the consolidation of foreign subsidiaries. Equity denominated in foreign currencies, dividend flows, financial investments denominated in foreign currencies and currency translation differences3 give rise to accounting currency risk. Note, however, that this is reflected in the currency translation differential in the consolidated accounts and therefore has no impact on net income. The same thing can apply to the interest rate risk.

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Such positions do not generally arise from the company’s choice or a purchase of derivatives, but are rather a natural consequence of its business activities, financing and the geographical location of its subsidiaries. A company’s aggregate position results from the following three items: its commercial position; its financial position; its accounting position. Let us first consider currency risk. Exposure to currency risk arises first of all from the purchases and sales of currencies that a company makes in the course of carrying out its business activities. Let us say, for example, that a eurozone company is due to receive $10m in six months, and has no dollar payables at the same date. That company is said to be long in six-month dollars.

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Recent studies have shown that the distribution of return has a configuration something like this. Source: Bloomberg & Datastream (CBOE Volatility Index on S&P100 until 31/12/2006 and S&P500 since) 5. Model risk Options markets, whether organised (listed) or not (over-the-counter), have developed considerably since the mid-1970s, as a result of the need for hedging (of currency risks, interest rates, share prices, etc.), an appetite for speculation (an option allows its holder to take a position without having to advance big sums) and the increase in arbitrage trading. In these conditions, a new type of approach to risk has developed on trading floors: model risk. The notion of model risk arose when some researchers noticed that the Black–Scholes model was biased, since (like many other models) it models share prices on the basis of a log-normal distribution.

Personal Investing: The Missing Manual
by Bonnie Biafore , Amy E. Buttell and Carol Fabbri
Published 24 May 2010

Unfortunately, reinvestment risk is a fact of life with any kind of fixed-income investment you hold to maturity. • Interest rate risk. If you buy a bond and sell it before it matures, you face interest rate risk, the risk that the bond price drops because interest rates rise (see page 136). • Currency risk. If you invest in foreign stocks or bonds, currency risk comes into play. If the dollar falls compared to your investment’s currency, your investment loses value. Currency exchange rates work in your favor when the dollar is strong compared to other currencies. When your portfolio grows large enough or you’re well ahead of your plan, you may yearn to gamble on higher-risk investments, such as micro-company stocks or high-yield bonds.

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See also small businesses accounts payable of, evaluating, 126 assets of, evaluating, 126 balance sheet, 106–108 cash flow statement, 108 cash of, evaluating, 126 debt of, analyzing, 112–115, 126 earnings per share (EPS), 126 growth of, evaluating, 108–111 income statement, 105–106 inventory of, evaluating, 126 management effectiveness of, 115–118 price ratios for, 120–124 profitability of, 118–120 quality of, evaluating, 111–120 return on assets (ROA), 116 return on equity (ROE), 115–116 revenues of, 125 shareholders’ equity, 108 turnover ratios of, 117–118 value of, evaluating, 120–125 company size categories of, 80, 83 diversification by, 162 compound annual growth rate, 110 compounding benefits of, for investing, 16–20 of inflation, 15–16 convertible bonds, 135 co-pays, 215 cost of goods sold, 106 Couch Potato Portfolio, 168 coupon rate for bonds, 128, 129, 133, 134–135 Coverdell education savings account, 67, 200, 203–204 credit cards, 41–43 credit quality of bond funds, 81 of bonds, 131–133 Ctrl+clicking, how to, 7 currency risk, 159 current ratio of a company, 114 current yield of bonds, 137 D day traders, 104 debts, company, 112–115, 126 debts, personal buying stock on margin, 43 good reasons for, 40 high-interest, getting rid of, 41–43 paying off before retiring, 27 debt-to-equity ratio, 113 defined-benefit plans, 29 defined-contribution plans, 30 diversification.

The Money Machine: How the City Works
by Philip Coggan
Published 1 Jul 2009

This has hugely increased their importance and, as we saw with Bear Stearns and Lehman Brothers in 2008, the risk they pose both to their own financial health and to the system. Broadly speaking, the investment banks earn their money from four areas: advising clients on everything from takeovers to how to handle currency risk; broking (connecting buyers and sellers in return for a fee); trading in the markets; and asset management (looking after other people’s money). The roots of the industry grew out of trade. Before the development of a worldwide banking system, much international trade depended on trust – trust that goods would be delivered and that they would be paid for.

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A further potential advantage to buyers of partly paid bonds is the scope for currency speculation. Investors can buy a partly paid bond in another currency, believing that the foreign currency will fall against their own. If it does, they will have to pay less for the second part of the bond. The problem of currency risk affects all investors who buy bonds denominated in foreign currencies. A US investor who buys an issue denominated in sterling will want sterling to appreciate against the dollar during the lifetime of the bond. Suppose the bond is worth £1 million when it is bought and the exchange rate is $1 =£1.

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The investment would have had to double in value to eliminate the currency-depreciation effect. To counter these problems many companies have a set policy for choosing the denominating currency for their transactions. Often this policy will be to trade always in the currency of the country in which the firm is based, in an attempt to eliminate currency risk altogether. This policy works very well until the company attempts to deal with another firm with the same policy but in a different country. It is also very unlikely that a UK company would accept payment in, say, Venezuelan bolivars because of the difficulty of converting the currency when delivered.

The Finance Book: Understand the Numbers Even if You're Not a Finance Professional
by Stuart Warner and Si Hussain
Published 20 Apr 2017

Financial assets and liabilities comprise principally of trade receivables and trade payables and the only interest-bearing balances are the bank deposits and borrowings which attract interest at variable rates. Interest rate, credit and foreign currency risk The Group has not entered into any hedging transactions during the year and considers interest rate, credit and foreign currency risks not to be significant. 3 Profit before tax Profit before tax is stated after charging/(crediting): 2015 £’000 2014 £’000 Amortisation of intangible assets 454 100 Depreciation on owned property, plant and equipment 39,687 37,463 Impairment of owned property, plant and equipment 66 414 Loss on disposal of fixed assets 2,952 3,576 Release of government grants (484) (473) Payments under operating leases – property rents 46,173 48,451 Research and development expenditure 320 465 Auditor’s remuneration: Audit of these accounts 140 140 Audit of pension schemes’ accounts 7 7 Other services – tax compliance 21 21 Other services – tax advisory 12 25 All other services 12 5 Amounts paid to the Company’s auditor in respect of services to the Company, other than the audit of the Company’s accounts, have not been disclosed as the information is required instead to be presented on a consolidated basis. 4 Exceptional items 2015 £’000 2014 £’000 Cost of sales Closure of in-store bakeries – redundancy and disruption costs – 3,190      – loss on disposal of assets – 664      – dilapidations – 2,078 – 5,932 Distribution and selling   Shop asset impairment reversal – (149)   Onerous leases – 431 – 282 Administrative expenses   Restructuring of support functions – 2,302 Total exceptional items – 8,516 The judgements made in calculating the provisions which arose as prior year exceptional items have been revisited.

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Market risk Market risk is the risk that changes in market prices, such as foreign exchange rates, interest rates and equity prices will affect the Group’s income or the value of its holdings of financial instruments. Market risk is not significant and therefore sensitivity analysis would not be meaningful. Currency risk The Group has no regular transactions in foreign currency although there are occasional purchases, mainly of capital items, denominated in foreign currency. Whilst certain costs such as electricity and wheat can be influenced by movements in the US dollar, actual contracts are priced in sterling.

Portfolio Design: A Modern Approach to Asset Allocation
by R. Marston
Published 29 Mar 2011

What can be established is that in the long run a policy of hedging currencies has not had a major effect on overall returns, at least as far c05 P2: c/d QC: e/f JWBT412-Marston T1: g December 8, 2010 17:36 Printer: Courier Westford 83 Foreign Stocks 1999–2001 8% 2002–2009 7.0% 4.5% Return per Annum P1: a/b 4% 2.3% 2.5% 0% -4% -5.0% -7.2% -8% In Dollars In Local Currency Currency Gain FIGURE 5.6 European Stock Returns since Euro was Introduced Data Source: MSCI. as the currencies of the major industrial countries are concerned. That’s because currency futures contracts are fairly priced. In the long run, there is little profit or loss from selling currencies in the forward market (which an investor would do in order to hedge the currency risk). A policy of selling French francs to hedge the currency exposure on French stock investments, for example, made an average profit of minus 0.7 percent per year between 1979 and June 2009 ignoring transactions costs. The same policy applied to Deutschemarks made an average profit of only +0.5 percent per year.10 It should not be surprising that returns are so small, since consistently high profits would be soon eliminated by additional speculators joining in the game.

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A reasonable interpretation of this result is that investors have made most of their diversification gains by moving from U.S. Treasuries to the Barclays Aggregate mix of U.S. bonds. There is only a modest gain from diversifying further into foreign bonds. If foreign currency capital gains and losses raise the standard deviation of the foreign bond return, perhaps there is a case for hedging the currency risk. As in the case of foreign stocks considered in Chapter 5, we will consider the simplest type of currency hedge where the foreign currency value of the bond investment at the beginning of the period is hedged using a forward contract. In that case, the hedged return consists of the return on the bond in local currency plus the forward premium on the hedge.

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For the Citigroup non-dollar World Government Bond Index, the standard deviation is cut by two-thirds.18 All but two of the standard deviations of the hedged foreign bond series are below that of even the U.S. medium-term bond. So, unlike in the case of foreign stocks, hedging foreign bonds greatly reduces the risk faced by an American investor. Since currencies are highly correlated with the returns on foreign bonds expressed in dollars, hedging the currency risk sharply reduces the risk of the foreign bond investment. Table 7.6 reports the returns on the hedged investments in foreign bonds. For all foreign bonds studied, returns on the hedged investments are lower than those on the un-hedged investments because the dollar fell against many currencies over this time period.

The Investment Checklist: The Art of In-Depth Research
by Michael Shearn
Published 8 Nov 2011

After a few hours of sleep and taking care of my other responsibilities, I was able to really dive in on an uninterrupted basis. And the more I looked at this as a business, the more excited I got. The renewable energy business that I was in had incredible capital requirements, very low returns on capital, and all sorts of extraneous risks such as technological risks, political risk, and currency risk. The education sector in this country, at the post-secondary level, was the exact opposite. It had low capital requirements, very high demand, very limited supply, and if you really ran a great university with a good reputation, a very wide moat.” Silberman read broad histories of higher education in the United States and then focused on the for-profit sector.

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Brazil, for example, ranked 127 out of 183 countries in 2009. You can also use resources such as Business Monitor International’s (BMI) Country Risk Reports to get an understanding of the business environment for a particular country. These typically cover political and macroeconomic issues and industry and operational risks in each country. Currency Risks One risk to international earnings is changes in the currency rate. For example, if you have a plant in Canada that manufactures a product and sells it to the United States, then the costs for the plant are in Canadian dollars and sales are in U.S. dollars. If the U.S. dollar depreciates against the Canadian dollar, the margins of the business will decrease because each dollar is now worth less when converted to Canadian currency.

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Financial Times, December 16, 2010. 10. Browne, Andrew, and Jason Dean. “Business Sours on China: Foreign Executives Say Beijing Creates Fresh Barriers; Broadsides, Patent Rules.” Wall Street Journal, March 17, 2010. 11. “Pernicious Innovation?” China Economic Review, September 2010, p. 10. 12. Kroll, Karen M. “Currency Risk: To Hedge or Hedge Not?” Business Finance, June 2007, pp. 35–39. CHAPTER 3 Understanding the Business—from the Customer Perspective Customers are the lifeblood of a business. In fact, the quality of a business is determined by the quality of its customers. At the end of the day, they are the stakeholders who determine the fate of a business.

How I Became a Quant: Insights From 25 of Wall Street's Elite
by Richard R. Lindsey and Barry Schachter
Published 30 Jun 2007

In 1998, Andre Perold and I coauthored “The Free Lunch in Currency Hedging: Implications for Investment Policy and Performance Standards.”11 We argued that, because currency boasts a long-term expected return that is close to zero, the sizable effects of currency risk can be removed with minimal transaction costs without the portfolio suffering much of a reduction in long-term return. Fischer Black immediately followed this in 1999 with his classic “Universal Hedging; Optimizing Currency Risk and Reward in International Equity Portfolios.”12 In a 1999 paper with Ross Miller, “Money Illusion Revisited: Linking Inflation to Asset Return Correlations,”13 we extended the pioneering work in behavioral finance by Franco Modigliani and Richard Cohn.

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The chairman was John Ledyard (also head of the Department of Humanities and Social Sciences at Caltech); its president was Charles Polk, one of John’s PhD students. 11. A. Perold and E. Schulman, “The Free Lunch in Currency Hedging: Implications for Investment Policy and Performance Standards,” Financial Analysts Journal (May–June 1988), 45–50. 12. F. Black, “Universal Hedging: Optimizing Currency Risk and Reward in International Equity Portfolios,” Financial Analysts Journal (July–August 1989). 13. Ross M. Miller and Evan Schulman, “Money Illusion Revisited: Linking Inflation to Asset Return Correlations,” Journal of Portfolio Management (Spring 1999). 14. Ray A. LeClair and Evan Schulman, “Revenue Recognition Certificates: A New Security,” Financial Analysts Journal (July–August 2006). 15.

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Finnerty “Financial Engineering in Corporate Finance: An Overview,” Financial Management (Winter 1988), pp. 14–33. JWPR007-Lindsey April 30, 2007 20:54 Bibliography Evan Schulman: Chairman, Upstream Technologies, LLC Black, F. (1995). Exploring General Equilibrium. Cambridge, MA: MIT Press. Black, F. (1989). “Universal Hedging: Optimizing Currency Risk and Reward in International Equity Portfolios.” Financial Analysts Journal (July–August). Bossaerts, Peter, Leslie Fine, and John Ledyard (2002). “Inducing Liquidity In Thin Financial Markets Through Combined-Value Trading Mechanisms.” European Economics Review 46, no. 9 (October) 1671–1695. Cohen, Kalman J., and Bruce P.

Mastering Private Equity
by Zeisberger, Claudia,Prahl, Michael,White, Bowen , Michael Prahl and Bowen White
Published 15 Jun 2017

The majority of PE firms do not protect against these currency fluctuations and leave the hedging decision to their LPs. FX: Hedge or Hope? By Rob Ryan, Market Risk Manager, Baring Private Equity Asia The arguments against fx hedging of Private Equity investments are well worn. Difficulties in timing fx hedges and the costs of eliminating currency risk have historically led to many fund managers adopting a strategy of hope rather than hedging. The conventional wisdom is that currencies always mean-revert in the long run, and since PE investing is a long-run activity, there’s no point in hedging. It is indeed true that currencies often exhibit mean reversion over the long term.

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What are the chances that the currency will be at the optimal point when the opportunity for divestment presents itself? PE investing is not exempt from Murphy’s Law. More to the point, the core competency of a PE firm is investing in Private Equity, not currency trading. And make no mistake: NOT hedging the currency risk on an investment IS currency trading, but without the usual fx market liquidity. PE firms have neither the competitive edge, nor the agility to profit from macro trading. Currency movement is an unwanted and uncontrollable risk that contributes only to volatility of returns. A portfolio theory approach would suggest that the risk performance of an investment (as measured by the Sharpe ratio) can be improved if some of the volatility of returns can be eliminated at a suitably acceptable cost.

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But what if that company does nothing but export locally made products or services, receiving USD as payment? In that case the company’s value increases upon local currency devaluation, as lower costs deliver higher margins. Hedging against a devaluation of the local currency would therefore increase currency risk: on appreciation, the hedges would lose money and the company’s margins would shrink. There are further complexities to be taken into account, such as industry concentration and pricing power; currency pass-through provisions in contracts; and even second-order effects such as wage inflation as imported inflation rises.

Broken Markets: A User's Guide to the Post-Finance Economy
by Kevin Mellyn
Published 18 Jun 2012

Banks can lend money in excess of their deposits not only because they can issue medium- and long-term debt in the market, but because they can borrow funds overnight from one another in the interbank market. European banks can lend their clients dollars because they can issue short-term paper to US money market funds.They can also hedge their interest rate and currency risks 101 102 Chapter 5 | Global Whirlwinds with each other and to customers by doing swaps and trading other derivatives with each other.These activities are all absolutely routine and essential to making the system work.They are also global, with the same big banks operating in multiple centers, including New York, London, Tokyo, and Singapore.

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w 163 I Index A C Anglo-Saxon capitalism, 84 Card Act, 68, 70 Anglo-Saxon-type banking systems, 156 CHIPS.See Clearing House Interbank Payment System Asset securitization, 66 Association of Community Organizers for Reform Now (ACORN), 65 Austerity definition, 98 Euro, real unification, 99 Germany, 99–101 B BankAmericard, 29 Bankcard association/card scheme, 29 Bank-centric system, 110 Bank for International Settlements (BIS), 108 Basel III process, 50–51 Basel process, 27–28 Basel standards, 61 Bipartisan government policy, 72 Boom optimistic entrepreneurs, 77 Bretton Woods system, 26, 111 Bureaucracies, 21 Civilization, 64 Clearing House Interbank Payment System (CHIPS), 106, 107 Committee of Payment and Settlement Systems (CPSS), 108 Community Reinvestment Act (CRA), 65–66 Consumer banking BankAmericard, 29 bankcard association/card scheme, 29 branch-based customer relationship, 29 credit card industry, 30 Depression-era Glass-Steagall Act, 33 “diseconomies of scale”, 35 FDIC, 34 four-party model, 29 institutional investors, 34 “market-centric” financial system, 33 merchant/customer relationship, 29 Pac-Man banking, 34 risky business, 31–33 RTC, 31 SEC, 33 S&L industry, 28, 30 1 166 Index Consumer banking (continued) statistical analysis, 30 US “flow-of-funds” data, 28 usury laws, 30 Consumer Finance Protection Bureau (CFPB), 68 Continuous Linked Settlement (CLS), 108 Creative destruction, 85 Credit-driven economy, 76–77 Crony capitalism, 85 Cross-Pacific economy, 97 D Debtor Nation, 64 Dirigisme, 83 Dollar-centric financial system, 112 Durbin Amendment, 70 E ECB.See European Central Bank Economic consequences, financial regulation, 55 bank P & Ls and balance sheets bureaucratic regulation, 59 capital allocation, 57 capitalism, 57 clearinghouse/transaction switch, 58 contradictory rules, 59 creative destruction, 63 free-market capitalism, 57 full-blown panic leading, 57 lender-of-last-resort function, 58 payments system, 58–59 private-sector banks, 58 consumer protection vs. access, 67–68 financial access restriction brick-and-mortar branches, 66 civilization, 64 clearinghouse, 63 CRA, 65–66 credit judgments, 65 economic enfranchisement, 64 government paternalism, 65 joint-stock banks, 63 loan securitization, 66 mass-market retail banking, 66 national and multilateral development agencies, 65 non-credit worthy segments, 66 ownership society, 66 paychecks, 64 premium/reward cards, 66 individual banker accountability, 55 interest reduction, 56 predatory lending, 56 product differentiation, 68–69 public utility, 55, 56 regulatory, capital, and litigation costs, 56 regulatory compliance and fraud losses, 56 savers and investors, 71–73 shell game asset-securitization process, 61 commercial and industrial loans, 62 credible assessment, 62 Dodd-Frank Act, 63 Federal Reserve Bank, 63 free-market creative destruction, 63 globalization, 62–63 Great Depression, 61 Great Moderation, 61 least-regulated jurisdictions, 61 regulatory arbitrage, 61 relationship banking, 62 retail banking revolution, 63 return-on-equity business, 62 rules-based regulation, 61 securitization and market-based funding, 63 supervision vs. rule making, 59–60 unbanking, 70–71 utility-style banking, 56 European Central Bank (ECB), 6, 99, 102–103 F Federal Deposit Insurance Corporation (FDIC), 34 Index Federal Reserve, 101 Finance consumers, 117 American Revolutionary War song, 118 bondholders and money market funds, 138 Bureau of Labor Statistics, 126 business-to-business commerce, 119 consumerism, 118 credit score, 120–121 debt free, 138–139 “dot-com” bubble, 1264 employment and consumer credit, 121–122 Gallup polling organization, 127 Great Society, 126 house prices, 133 “infrastructure”, 119 innovation and education, America advantage, 129 American living standards, 129 global success, 128 high-stakes examinations, 130 industrial policy, 128 student loans, 131 mass-market pottery, 119 money saving, 136–137 New Class, new elite educated caste, 132–133 non-tradable private sector, 127 one’s station in life, 118 overseas trade, 119 pent-up demand, 119 private-sector employment, 125 property taxes, 127 “self-liquidating”, definition, 119 shelter asset bubbles and distorts markets, 133 electoral process, 134 Japanese economy, 135–136 retirement plans and financial advisors, 134 Travellers Club, 133 wealth effect, 133 short-term insurance scheme, unemployment assistance, 127 stock market, 137–138 structural unemployment American economy, 123–125 labor force participation rate, 123 labor markets, Europe, 122 solidarity, 123 three-tiered system, 122 subsidy-based industries, 125 super-safe government debt, 125 technological creativity and economic progress, 117 unionized public-service employees, 125 US job growth, 126 “welfare to work” requirements, 126 You, Inc., 139 Finance-driven economy, 1, 72 anti-capitalism, 2 capitalism, 1 chronic debt crisis, 22 corporate America, 20 current movie artificial bank earnings, 7 asset prices, 6 banking implosions, 6 borrowers and investors connection, 10 borrowing demand, 7 catastrophic financial bubble, 10 civilization, 10 corporatism, 9 democratic crony capitalism, 9 Dodd-Frank act, 8 economic growth and social stability, 10 financial repression, 9 Glass-Steagall Act, 8 human ingenuity, 10 interbank funding markets, 6 low interest rates and easy money, 6 market collapse, 10 money market, 6 overexuberence, 6 overinvestment and speculation, 6 pre-crisis conditions, 8 printing money, 7 private capital, 7 167 168 Index Finance-driven economy (continued) profitability, 7 quantitative easing, 8 recovery, 8 regulation, 8 regulatory capital rules, 8 resources and tools, 9 shell-shocked enterprises and households, 8 end of employment, 21–22 financial leverage magic and poison CEO class, 14–15 consumer debt, 15–16 disconnection problem, 11–12 market bargain, 10 real economy, 10 wealth financialization, 13–14 working capital, 11 global financial crisis, 2 Great Moderation, 16–18 Great Panic, 18–19 household sector agony, 19–20 investor class, 22 Marx, Karl asset bubble, 5 cash nexus, 4 dot-com bubble, 5 economic revolution, 3 First World War, 4 free markets, 3 French Revolution, 3 globalization, 3 Great Depression, 5 liberalism, 3 normalcy, 4 overproduction and speculation, 3 Wall Street, 4, 5 revolutionary socialism, 2 sovereign debt, 8, 22 Finance reconstruction, 142 bank bashing, 146 “bankers”, 142 business model, challenges, 145 Citigroup, 145 cyclical businesses, 143 government management, 142 legitimacy bonus culture, 148–150 privileged opportunity, longestablished bank, 146 short-term share-price manipulation, 148 state and legal systems, 147 stock price, 147 mark-to-market price, 144 “producers”, 143 profession, definition, 163 prudence, 145, 161–163 root-and-branch transformation, 145 talent pool, 144 “the race for talent”, 143 trust cash management, 160 Financial Market Meltdown, 159 FSA, 159 hackneyed term, 159 information asymmetry, 159 non-bank financial service provider, 161 oversold/up-sold products, 159 utility Anglo-Saxon-type banking systems, 156 big data tools, 158 bills-of-exchange market, 150 branch and payment services, 157 clearinghouse creation, 158 core banking, 154 economic value transmission, 150 exchange of claims, 151 fee-income growth, 155 fiat money system, 151 financial intermediation, 150 financial transactions, 157 flexible contractor/subcontractor relationship, 158 information technology, 156 “liquidity premium”, 152 multidivisional/M-form organization, 153 non-interest income, 155 old-media companies, 157 Index overhead value analysis, 154 “privileged opportunity”, 152 quill pen–era practice, 158 sheer utility value, 155 silos, product business, 153 transaction accounts, 152 venture capital industry, 142 “War for Talent”, 143 Financial crises, 23 affordable housing, 24 banking “transmission” mechanism, 43 Basel III process, 50–51 basel process, 27–28 consumer banking(see Consumer banking) Dodd-Frank, 49–50 domestic banking system, 38 European Union, 51–53 FDIC, 40 finance-driven economy’s leverage machine, 43 Financial Market Meltdown, 25 GDP, 38 Government Policy and Central Banks, market meltdown(see Regulation process) government policy failure, 45 “government-sponsored” public companies, 24 Great Depression, 44 GSEs, 24 legal missteps, 47–48 New Deal, 43 panic-stricken markets, 40 political missteps, 45–47 Ponzi scheme, 42 postwar financial order, 25–27 printing money, 38 private profits and socialized losses, 40 private-sector demand, 43 public-sector demand, 42 quantitative approach, 25 TARP, 39 too-big-to-fail institutions, 41 Triple A bonds, 41 US Federal Reserve System, 38 Financial liberalization, 89 Financial Market Meltdown, 25, 61, 89, 109, 159 Financial repression, 9, 78, 111 Financial Services Authority (FSA), 60, 159 Food and Drug Administration (FDA), 69 Fordism, 68 Free-market capitalism, 89 Free markets, 3 French Revolution, 3 Front-end trading systems, 107 FSA.See Financial Services Authority G GDP, 11 “Giro” payments systems, 151 Global imbalance, 96 Globalization, 3 Global whirlwinds, 93 Asia, finance movement cultural differences, 110–111 Financial Market Meltdown, 109 Interest Equalization Tax, 109 language, law, and business culture, 109 primacy, 109 austerity(see Austerity) British Empire, 30 Chimerica, 97 China and United States cross-Pacific economy, 97 foreign interference and aggression, 98 headline growth rates, 97 repression revolution and series, 97–98 Second World War, 98 Smoot-Hawley Tariff, 98 surpluse trade, 97 sustainable development, 98 Chinese ascendancy, 113 clearing and settlement bottleneck, 106–107 Dynastic China, 112 169 Download from Wow! eBook <www.wowebook.com> 170 Index Global whirlwinds (continued) economic primacy, 113 European banking crisis ECB, 102–103 federal funds market, 102 Federal Reserve, 103 global money market, 102 interbank market, 101 interbank-lending market, 102 interest rate and currency risks, 101 investment-banking industry, 101 recession, 103 short-and medium-term credit, 101 short-term funding and liquidity, 101 sovereign risk, 102 steroids, 103 globalization, 113 global money pump, 103–105 global trade, zero-sum game ants and grasshoppers, 96 cheap TV deal, 94–95 Chinese Central Bank, 94 currency manipulation, 95–96 multilateral trade, 94 political demagoguery, 94 hegemon, 113–116 sustainable development, 112 technology vs. friction, 105–106 US global economic leadership, 112 US losing clout, 111–112 war, settlement risk, 108–109 Western decline acceleration, 113 Government-sponsored enterprises (GSEs), 17 Graham-Leach-Bliley Act, 36 Great Depression, 5, 44, 61 Great Moderation, 16–18, 21, 61 “Green” economy, 85 Growth-killing austerity, 111 H Home equity lines of credit (HELOCs), 16 I Industrial Revolution, 77 Infinite customization, 68 J Joint-stock banking, 63, 76 L Laissez-faire economy, 84–86 Liberal arts, 132 Life after finance, 75 credit-driven economy, 76–77 death knell, consumer credit American optimism, 90 big data, 90 entrepreneurs starvation, 91–92 loan factories, 90 per-account/per-transaction, 90 securitization, 90 unbanking, 91 financial repression Bretton Woods system, 79 capital exports and foreignexchange transactions, 79 captive domestic audience, 79 debt restructuring, 78 GDP, 79 government banks ownership, 79 industrial policy, 86 monopolies, 86 negative real interest rates, 78, 79 prudential regulation, 79 rules, 80 subsidized green energy, 86 tax raising and lowering, 81–82 World War II, 79 Government expenditure, 75–76 low interest rates, 77–78 political direction, credit and investment formal taxation, 82 government-run utility, 83 Japanese banks, 83 laissez-faire economy myth, 84–86 Index market-driven banking system, 83 winners and losers, 83–84 risky business amalgamation, 88 coincidence, 88 competition, 89–90 joint-stock banks, 87 often-contradictory rules and requirements, 88 private partnerships, 87 separation of functions, 87 shareholder-owned banks, 87 small-town banks, 87 Life-line banking, 70 R Liquidity trap, 72 Ring fencing, 88 London Interbank Offered Rate (LIBOR), 102 Rules-based regulation, 59, 61 M S “Market-centric” financial system, 110 Real Time Gross Settlement (RTGS), 108 Regulation process “Anglo-Saxon” world, 36 balance sheets and trading desks, 35 definition, 36 finance deregulation, 35–36 Graham-Leach-Bliley Act, 36 Triple A–rated bonds, 37 “ultra-safe” money market mutual fund, 37 Regulatory arbitrage, 61 Resolution Trust Corporation (RTC), 31 Savings-and-loan (S&L) industry, 28, 30 Mass-market retail banking, 66 Securities and Exchange Commission (SEC) rules, 33 McKinsey Global Institute (MGI), 110 S&L industry.See Savings-and-loan industry Micro-regulation, 92 Ministry of International Trade and Industry (MITI), 83 Society for Worldwide Interbank Financial Telecommunications (SWIFT), 107 Moral hazard, 18 Straight-through procession, 107 N National Bank Act, 49 National Bureau of Economic Research (NBER), 78 O Outsourcing, 13 P Personal Consumption Expenditure (PCE), 90 Price discovery, 104 Principles-based regulation, 59 Printing money, 78 Professional/proprietary trading, 12 Subprime mortgage market, 66 T The Dodd-Frank Act, 49 Trillion-pound banking groups, 60 Troubled Asset Relief Program (TARP), 39 U US Federal Reserve, 6 V Volcker rule, 88 W Working capital, 11 171 Broken Markets A User’s Guide to the Post-Finance Economy Kevin Mellyn Broken Markets: A User’s Guide to the Post-Finance Economy Copyright © 2012 by Kevin Mellyn All rights reserved.

Where Does Money Come From?: A Guide to the UK Monetary & Banking System
by Josh Ryan-Collins , Tony Greenham , Richard Werner and Andrew Jackson
Published 14 Apr 2012

An American car company (say General Motors) that owns a factory in the UK will need to convert dollars to pounds and vice versa. However, this creates a problem – if exchange rates can fluctuate, then it may be difficult for General Motors to know its costs (in dollars) when agreeing contracts. General Motors can protect itself from currency risk through a process known as hedging. The two most common forms of hedging in the foreign exchange market are forward contracts and options. A forward contract allows General Motors to lock in the current exchange rate, so that whatever the exchange rate is at the end of the year, it can still exchange its pounds for dollars at the rate set in the contract (say £1 = $1.5).

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For example, if, when the time comes to exchange currencies, the exchange rate is £1 = $1, then General Motors could have paid its workers with just $10 million rather than the $15 million required when the exchange rate is £1 = $1.50 – a loss of $5 million. Let us now consider with whom General Motors might be making forward contracts. One possibility could be a UK business that wishes to pay for something in dollars at the end of the year, and is also worried about currency risk. Another could be a speculator who wishes to bet on the outcome of exchange rate fluctuations. For instance, a speculator may enter into the contract with General Motors, agreeing to receive $15 million in exchange for £10 million next year, at an exchange rate of £1 = $1.50. If the exchange rate does not change, then the speculator neither gains nor loses from the exchange.

Commodity Trading Advisors: Risk, Performance Analysis, and Selection
by Greg N. Gregoriou , Vassilios Karavas , François-Serge Lhabitant and Fabrice Douglas Rouah
Published 23 Sep 2004

TREASURY US $ MAJOR CURRENCY US $ TO JAPANESE YEN Goldman Sachs Commodity Index Low Med High T-stats 2.40%a −1.09%c −0.86% 0.59%b 0.49%b 2.44%a 5.30* / −1.81* / 1.92* −1.79* / −2.34* / −3.97* 1.78%a −0.38%c 0.59%b 2.55* / −1.47 / 1.19 1.39%a −0.26%c 0.86%a 2.02* / −1.17 / 0.69 0.02%b 0.34%b 1.59%a −0.25 / −1.71 / −1.39 a Above average average but positive cBelow average and negative *Significant at 5% level bBelow ing that the Edhec CTA Index payoff resembles a long position on a put option on currency risk factors and a long position on a call option on the GSCI. We can thus conclude that the performance of the Edhec CTA Index is clearly affected by the evolution of the risk factors selected. A word of caution is in order. Even if CTA managers generally continue to invest in the same markets and follow the same investment strategies, they may engage in various factor timing strategies to take advantage of macroeconomic trends.

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Moody’s Baa Corporate Bond Yield to proxy for the default risk premium (DEF) as well as the monthly change on this yield (∆DEF); the U.S. 10-year/6-month Interest Rate Swap Rate to proxy for the maturity risk premium (MAT) as well as its monthly change (∆MAT); and finally the monthly change in the U.S. dollar/Swiss franc exchange rate to proxy for the currency risk premium (FX). These data series were extracted from the JCFQuant database. The Performance of CTAs in Changing Market Conditions 119 Finally, we use the option strategy factor proposed by Agarwal and Naik (2002) and Liang (2003) to capture the optionality component of CTA returns. We construct the series of returns on the one-month ATM call written on the Russell 3000 index (ATMC) for this purpose.

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The adjusted R-squared of the “Weak Bull” and “Moderate Bull” subperiods are comparable to those found for the previous indices; however, the factors that explain the variations in the returns are different across the indices. Overall we find that the factors that best explain the excess returns on the discretionary index are the currency risk premium (FX), the square of the excess returns on the Russell 3000 (RUS2), and the returns on the two commodity indices (GSCI and MCOM). 123 0.097 0.345 0.211 — 0.472 ATMC — — — — −0.202 Alpha −0.212* −0.025 −0.184 — −0.092 — — −0.11** — 0.166** FX — 0.117 −0.123 — −0.052* UMD — 0.089 −0.096* — — HDMZD — 0.092 −0.091** — — ∆MAT RUS2 RUS3 0.091** 0.007** — — 0.018** −0.002** 0.069 — — — — — — — — GSCI — — — — 0.267** MCOM ATMC = series of returns on the one-month ATM call written on the Russell 3000 index.

Taming the Sun: Innovations to Harness Solar Energy and Power the Planet
by Varun Sivaram
Published 2 Mar 2018

To encourage domestic investors to provide loans at decent terms, the Indian government can scale up its use of partial credit guarantees, which reduce a local bank’s exposure to default.66 To attract foreign investors, the government has announced plans to roll out a currency-hedging facility. Currency risk spooks foreign investors who do not want the solar projects they have financed to become less valuable in, for example, U.S. dollars. This risk can add up to seven percentage points to the minimum rate of return that investors will tolerate, preventing them from investing in otherwise attractive solar projects.67 But by offering to share some of the currency risk with foreign investors, the government could increase the number of projects that make business sense for those investors to fund.

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See also Private sector Cost of capital, 90, 287g CPI. See Climate Policy Initiative Credit, for off-grid customers, 127–128 Crescent Dunes CSP plant (Nevada), 185 CREZ (Competitive Renewable Energy Zone), 269 Cross-national grids, 200–207 Crystal lattice, 150, 152 CSP. See Concentrated solar power Cuomo, Andrew, 207–208 Currency risk, 113 Current (electric current), 148, 149, 279g Curtailment, 77 Cyclotron Road program, 264 Cypress Semiconductor, 42 Czech Republic, 78 DARPA. See Defense Advanced Research Projects Agency Davos, Switzerland, 212 DC microgrids, 130–134, 138, 217 DC transmission lines, 202–203, 203f high-voltage, 202–204, 203f, 206, 217, 219, 269, 285g ultra-high-voltage, 196, 204–205 Death spiral, 107 Debt capital, 91, 98, 100–101, 126 Decarbonization, 171, 284g.

Digital Accounting: The Effects of the Internet and Erp on Accounting
by Ashutosh Deshmukh
Published 13 Dec 2005

Interest rate risk deals with changes in the interest rate and interest margins and the consequent effects on financing costs, returns on investments and valuations of investments or debt. These changes need to be monitored and appropriate corrective actions need to be taken to minimize the risk. Currency risk is a risk that an organization’s operations or an investment’s value will be affected by changes in currency exchange rates. Currency risks are important for companies that derive revenues from other countries, since adverse changes in currency values can affect the bottom line. Currency and interest rate risks can be managed using different on- or off-balances sheet hedging strategies such as forwards, futures, swaps and Copyright © 2006, Idea Group Inc.

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Copying or distributing in print or electronic forms without written permission of Idea Group Inc. is prohibited. 296 Deshmukh Exhibit 2. Treasury functions Cash Management •Liquidity Management •Payments and Collections •Electronic Banking Treasury Functions Investment and Debt Management •Bank Borrowings •Stock and Bond Issuance •Dividend Policies Financial Risk Management •Liquidity Risk •Credit Risk •Interest Rate Risk •Currency Risk •Share Value Risk Investor Relations Financial Intermediaries Foreign Exchange Markets Interest Rate Changes Investment and debt management deals with investments in marketable securities, issuance debt and security instruments, and sale and redemption of these instruments. These activities require access to stock market information, money markets, fixed-income securities markets, foreign exchange rates and derivatives.

Beyond Diversification: What Every Investor Needs to Know About Asset Allocation
by Sebastien Page
Published 4 Nov 2020

But for other asset classes, initial yield is not as predictive. Correlation for high-yield bonds peaks at 78% at 0.98 duration and hovers around 70–75% for the 1.0 to 2.0 range. For emerging markets bonds, it peaks at 89% at 1.9 duration. For unhedged international bonds, correlation peaks at 57% at 0.5 duration (here the effect of currency risk muddies the water). Harvey and Stonacek conclude that “current yields are most highly correlated with future returns for higher-quality and hedged bond indexes. As these indexes follow stricter maturity, duration, and quality rules, they present a more stable risk/return profile than unhedged and lower quality indexes.”

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For more flexibility, break down returns into two building blocks: income and long-term growth. 5. Valuation changes are harder to model. When in doubt, assume valuation ratios revert to a mean. 6. For bonds, make sure your estimate is not too far from the asset class’s yield to maturity. 7. Beware of large credit and currency risk exposures. Apply a default haircut when needed. 8. If possible, ask experienced investors for their forecasts of earnings growth, rates, spreads, etc. 9. Use these forecasts as the key inputs to transparent building block models that can be debated. Tactical Forecasts: 1. For shorter-term equity forecasts, focus on valuation changes more than on income and growth. 2.

The City
by Tony Norfield

This shows that analyses of what some have called ‘financialisation’ must be set in the context of global developments, and that it would be a mistake to treat the issue only from the point of view of what happens in individual countries.21 Secondly, by issuing debt denominated in US dollars, the US state can avoid taking on foreign currency risk. In a US-centred crisis, the value of the dollar might fall against other major currencies, but the US state has little debt denominated in euros, Japanese yen or sterling, so it will face a negligible increase in its liabilities from this source. Countries that do not occupy such a privileged position in global finance – those that are not imperialist powers – face much bigger risks.

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Gupta, Partha Sarathi 1975, Imperialism and the British Labour Movement, 1914–1964, London: Macmillan Press Newsinger, John 2006, The Blood Never Dried: A People’s History of the British Empire, London: Bookmarks Index Page numbers in bold refer to charts, page numbers in italic refer to charts. 1 per cent, the 76, 102 ABN AMRO 51 ABP 82 Acland, Richard 32 advances 78 Afghanistan 220 Amsterdam 51 Anglo-American euromarkets 40–4 Anglo-American financial relationships 21, 27–8, 36, 59 transition, post-1945 29–30 Anheuser Busch InBev 121 anti-monopoly policies 119–20 Apple 77, 118, 118–19, 121–2, 155 Arab-Israeli War, 1973 55 Asian financial crisis, 1997–98 101, 166–7 Asian Infrastructure Investment Bank (AIIB) 18, 226 asset managers 80–1 austerity 152, 219 Australia 31, 58, 60, 109, 206, 226 automobile production 121 Aviva 82 Bahamas, the 209 balance of payments 187, 188, 200, 203, 207 balance of power 52 bank deposits 93 Bank for International Settlements (BIS) 108, 191, 192, 214 bank loans, international 66 Bank of America 125 Bank of America International xi Bank of England 44, 47, 56–7, 62, 64, 99–100, 116, 158–9, 173 Bank of Japan 157–8 banking capital 136 banks American 132–3, 193 American fragmentation 40 American regulation 36 assets 4, 85, 122–3, 141–4, 143, 214 borrowing 206–8 broking activity 80 business 79–80 Chinese 225–6 City of London trade 45 clients 79 creation of revenue-earning assets 137, 137–8 credit creation 83–5, 86, 104 dealing revenues 146 dealing spreads 191 derivative assets 140–1 Eurodollar deposits in American 41–2 existing loan assets 140 financial assets 139–47, 143 financial power 92 financial services revenues 191–7, 192, 194, 196 fines 79–80 foreign exchange deals 79 foreign exchange turnover 193–5, 194 fund buy backs 198 Hilferding’s analysis 92–5 interest-bearing capital advances 79–80 international assets 108 international business volume 192–3 Islamic 221 lending 142–4, 208–10 leverage ratios 131–4, 133, 134, 138 liabilities 108, 141, 141–4, 143 monopoly position 139 net interest income 138 networks 205–6 offshore operations 208–9 private 116 reserve requirements 40 role of 9, 136 short-term money-market instrument assets 144 start-ups 139 transaction volume 134–5 UK 4, 116, 134, 191–7, 192, 194, 196, 206–10, 214 UK assets and liabilities 141–4, 143 unsecured loans between 46 Banque de France 100 Barclays Bank 4 Barclays Global Investors 125 Barclays-Lehman deal, 2008 125 Barclays plc 123, 125 Bayly, Christopher 30 beer production 121 Belgium 1 Berkshire Hathaway 81–2 Berlin Wall, fall of 63 Bevan, Aneurin 32 Big Bang, the xi, 7, 54, 66–70 BlackRock 80, 125 Blair, Tony 64, 112 bond markets 49, 146 bond ownership 102, 144, 146 bond securities, characteristics 86 booms 104 borrowed money 78 borrowing banks 206–8 bond-market 146 interest rates 146 repo 46 risk 130 UK 201–2, 204–5 UK bank 206–8 BP plc 3, 111–12, 114, 190 Brazil 18, 106, 107, 222 Bretton Woods world monetary system 10, 26–7, 29, 31, 39 break up of 16, 52, 53, 66 BRICS 222–3 British Empire 23–6, 24, 25, 27, 28, 30–3, 52, 105 brokers 68, 80, 96, 99 Browne, John 112 Brown, Gordon 210 Brunei 220 Bündchen, Gisele 164–5 Bundesbank 57, 62 Burn, Gary 43, 74 Bush, George W. xii busts 104 Cameron, David 211, 220–1 Canada 4, 31, 60, 66 capital access to foreign 68 accumulation 19, 149 and financial securities 89–90 and imperialism 19–20 interest-bearing 77–8 manufacturing 43 money-dealing 79 organic composition of 148–9 ownership 93 parasitism 228 productive 90 capitalism crisis 12, 215 and finance 76 financial mechanism of 9 and financial system 8–9 global 4 and monopoly 100 moribund 159–60 and the rate of profit 147–50 and the state 111–15 UK 44–7, 49 capitalist business 74 capitalist market system, and finance xiii capitalist power 86 capitalist production 9 rate of profit measurement 153 capital movement, national controls on 51 capital values, destruction of 151–2 Carlsberg 121 Carney, Mark 213–14 cash flows, financial securities 88 Cayman Islands, the 209, 211 central banks 5, 47, 83, 85, 116 CHAPS 84 Chesnais, François 19–20 Chicago 37, 42, 185, 195 China 2, 15, 171 automobile production 121 bad debt 224 banks 225–6 challenge of 222 challenge to America 17–18 currency trading 225–6 cyber attacks 18 equity market capitalisation and turnover 181, 182 export prices 224–5 FDI 107–8 financial services exports 176–7 foreign direct investments 18 foreign exchange reserves 167, 224 foreign exchange trading 109 FX swap arrangements 225 GDP 106, 106–7, 224 growing financial role 73 military spending 109 millionaires 99 mobile phones 122 New Development Bank funding 18, 222–3 rise of 18, 221–7 and Russia 223 security threat 18 status 110, 111 stock exchange prices 182 stock exchanges 18 US dollar-denominated debt 18, 221 wages 155 China Mobile 222 China Resources Snow Breweries 121 Churchill, Winston 60 as Chancellor of the Exchequer 23, 24–6 Iron Curtain speech 29 ‘City–Bank of England–Treasury’ nexus 54 City bonuses 211 City of London 37, 228 advantages 37, 40, 47, 49–50, 52 casino analogy xii Chinese currency trading 225–6 competitiveness 68 deregulation xii, 7 development 44–7 domination 194–5 earnings 49 and economic policy 8 euromarket 44–5, 47–51 European rivals 46–7, 51 expansion 40 financial system 37–40 geographical scope 37 Gowan’s analysis 11–12 growth 44–5 international reach 4 international role 47–51, 73–4 market 45 networks 205–6 operations 185–212 Panitch and Gindin’s analysis 15 relationship with America 73 role xii–xiii, 45, 49, 69 status 28, 35, 50, 185, 206, 210–11 strength 99–100 Clinton, Bill 122 Clinton, Hillary 18 clipping coupons 97–8 Cold War, the 37 Collateralised Debt Obligations (CDOs) 90, 140 colonial marketing boards 32 commercial capitalists 76 commodities, circulation of 78 Common Agricultural Policy 58 communism, threat of 30 Competition Commission 119–20 constructive parasitism 213–14 cooperation 16, 28 corporate control 183 corporations headquarters 114–15 nationality 111–13 stock market listings 113 cost of living 155 costs 77 Court of Justice, European Union 216 credit bubble 156 credit creation 21, 76, 150–1 banks 83–5, 86, 104 currency dealing costs 162 seigniorage 163–6 and trade 162–3 current account balance, UK 188–90, 189, 190 current account deficit, UK 200, 202, 211, 217 current account deficit, USA 167–8 current account surplus, UK 33, 34, 69 cyber attacks 18 Czech Republic 10 Darling, Alistair 125 dealing costs 162 dealing revenues 146 dealing room screens xi dealing spreads 191 debt crisis 151–2 Deepwater Horizon oil spill 190 de Gaulle, Charles 34, 47 Dell 77 Denmark 1 deregulation 45, 54, 65–70 derivatives 140–1 dealing in 142 definition 141 money-market 141 over-the-counter 185, 195, 196 derivatives markets 135 Deutsche Bank 215 Dollar–Wall Street Regime 12 domestic politics, economics and 217–19 Dubai 172 Dublin, International Financial Services Centre 178 earnings, City of London 49 Economic and Monetary Union (EMU) 59–61 advantages 63 five conditions for membership 64 threat to UK financial power 64–5 UK opt-outs 61–4 Economic Consequences of Mr Churchill, The (Keynes) 23–4 Economic Consequences of the Peace, The (Keynes) 23 economic crises 151–2 economic growth 53, 60–1 economic influence 3 economic output 106 economic policy 8 economic power 101 concentration of 91–2 financial privileges of 7 and financial securities 85–92 global 3–6 hierarchy of 97 manifestation of 88–92 UK 2 economic privilege 104 economic relationships, in global capitalism 4 economics, domestic politics and 217–19 economic system, dysfunctional 8 elevators and escalators 121 employment, financial sector 186 End of History thesis 15–16 English language, role of 37 equity capital, valuation 179 equity markets 179–81, 181–3 capitalisation and turnover 181–3, 181 equity securities 86 eurobonds 41, 47–8 euro crisis, 2010 62, 65 eurocurrency bonds 49 eurodollars 40–1, 43, 48 euro financial system 72–3 euromarkets 28, 40, 51, 52, 66 Anglo-American 40–4 City of London 44–5, 47–51 definition 40 growth 40, 42, 43 interest 41 operation 40–1 origins 42–3 regulation 40–1 scale 43 UK earnings 43–4 European Central Bank (ECB) 64, 65, 72, 100, 159, 173 European Commission 162 European Economic Community (EEC) 33, 34, 57–8 European Free Trade Association (EFTA) 34 European integration 58 European Monetary System 67 European Union 16–17, 21, 54 anti-monopoly policies 120–1 Court of Justice 216 financial policy 69–70 financial services sector integration 72–3 GDP 70 UK membership referendum 218–19 UK opt-outs 61–2 euro system 57 euro, the 162–3, 164, 165, 166 status 72–3, 109 exchange controls, abolition of 54, 66–7 exchange rates 156, 163 Exchange Rate Mechanism (ERM) 57, 62 existing loan assets 140 exorbitant privilege 166–9 Facebook 5, 91 Federal Deposit Insurance Corporation charge (US) 41 Federal Reserve System (US) 40 fictitious capital 87, 88, 90, 91, 183 ownership 92 pricing 147 and securities prices 145 as wealth 147 fictitious deposits 83 finance access to 6 and capitalism 76 and capitalist market system xiii definition 5 and imperialism 8–10 and power 7–8 role of 161 finance capital 92–5 finance ministries 5 financial account, UK 197–200, 199 balance of payments 200 flows 198–9, 199 surplus 199 financial aristocracy 90, 96 financial assets banks 139–47, 143 ownership of 102–3 and profit 137 financial capitalists 78 financial crises 6, 10, 19, 101–2 America and 12 causes 147–8 and profit and profitability 135 financial crisis, 2007–8 20, 65, 72, 132, 134, 154, 157–8, 168, 198, 214 financial dealing 76 financial excess 154 financial institutions, and money-capitalists 76–7 financial market shares 70–3, 71 financial markets, state policy 65–70 financial operations xiii financial parasitism 95–7, 227–8 financial policy American 11, 65–6, 67–8 European Union 69–70 Japanese 67 UK 14, 65–70 financial power 101, 109 American 6, 11–12, 14–15, 55, 170–3, 183 banks 92 EMU threat to 64–5 global 3–6 individuals 90–1 UK 2, 3, 64–5 financial prices 8 financial privilege 7, 22 financial revenues 144–6 financial scandals 216 financial sector 5 employment 186, 213–14 scale 4, 213–14 tax revenues 186 financial sector capitalists 91 financial securities 21, 104 as assets 91–2 and capital accumulation 89–90, 139–40, 179 cash flows 88 cash value 89 characteristics 86 creditors 88–9 and economic power 85–92 markets 89 price 87–8, 145–6, 147 price currency 181 role of 76 and surplus value 144–6 value xi, 87–8 financial services exports 173–9, 175 financial services revenues 190–7, 192, 194, 196 Financial Stability Board 214 financial system 4, 4–5, 20, 104, 227 and capitalism 8–9 growth 75–6 hierarchy 6, 105–11, 111 and imperialism 8–10 state regulation 115–16 Financial Times xii, 75, 214 Top 500 global corporations 3 financialisation 20 First World War 23–6, 29 fixed assets, and profit 137 floating-rate notes 48 Ford Motor Company 5 Ford Motor Credit 5 foreign currency risk 168 foreign direct investment (FDI) American 3, 42 Chinese 18 outward 107–8 and status 107–8 UK 3, 66, 200, 205 foreign exchange deals, banks 79 foreign exchange (FX) market 71, 72, 193–5, 194 foreign exchange trading 108–9, 123 foreign investment revenues 9–10, 22, 189–90 foreign operations, expanding 101 foreign securities 47–8 Fox Broadcasting Company 113 France 2, 4, 13, 63, 93 China policy 226 FDI 107 GDP 106, 107 international banking index 108 international banking position 192, 192 Keynesianism in one country 67 military spending 109 monetary policy 67 seigniorage 165 trade pattern 60–1, 61 Frankfurt 51, 64, 72 free market 13, 15–16 FTSE 100 113 Fukuyama, Francis 15–16 functioning capitalists 77–8 G4S 120 GDP Chinese 224 European Union 70 and status 106 UK 4, 106, 107, 155–6 GE Capital 5 General Electric 5 General Motors 121 Gent, Chris 180 Germany 2, 4, 63, 66, 94–5, 107, 108, 109, 110, 111 China policy 226 domination 64 equity market capitalisation and turnover 181, 182 GDP 106, 107 Hilferding’s analysis 93–95 international banking share 71, 71 reunification 62, 63 seigniorage 165 status 54 trade pattern 60–1, 61 GIC 177 Gindin, Sam 14–17, 18 Glass-Steagall legislation 36 Glencore 122 global capitalism, economic relationships in 4 global finance 2 globalisation 13, 114 global market trading, location 49 global system, centre of gravity 73–4 global value chains 118 Goldman Sachs 161, 222 gold prices 39 gold standard 23–6, 54 Google 5 government debt 87, 89 governments, financial role 5 government spending, cuts 59 Gowan, Peter, The Global Gamble 11–12 Greece 65, 72, 101, 151 greed 148 Group of 5, the 68 Group of 7, the 70, 71 Harper, Tim 30 Harvey, David 19 Healey, Denis 58–9 Heath, Edward 57–8 hedge funds 12, 81, 131 Heineken 121 Helleiner, Eric 12–14, 70 Hilferding, Rudolf 136 Finance Capital 92–5 Holcim 75 Hong Kong 18, 176–7, 206, 209 household debt 103 Howe, Geoffrey 66 HSBC 3–4, 225 idiocy 148 Iksil, Bruno 135–6 imperialism 5–6, 160, 161–84 American 12, 14–15, 166–9 and capital 19–20 currency 162–6 definition 117–18 domination network 21 economic definition 116–17 economic mechanism 117–21 equity markets 179–83 exorbitant privilege 166–9 and finance 8–10 financial power 170–3 financial services exports 173–9, 175 Lenin’s analysis 117–18 methods 117, 118 and monopoly 100, 117–21 parasitism of 97–9 power 126 predatory 19 and the state 119 UK 7–8, 186, 228 imports 155 India 18, 30, 222 GDP 106, 107, 224 individuals, financial power 90–1 Indonesia 101 inflation, 1970s 58 inflation rates 132, 164 innovation 135–6 insurance companies 81–2, 99 insurance premiums 81–2 insurance revenues 191 intellectual property rights 126 interbank market 46 interbank payments, value 84 interbank payment systems 84 interest and interest rates 78, 88, 130, 132, 138, 142 American 168 bond-market borrowing 146 derivatives turnover 195, 196 ERM fiasco 62 euromarkets 41 and profit 156–7 UK 203 interest-bearing capital 77–8 bank advances 79–80 dealing in 79–80 division of labour 99 Lenin’s analysis 98–9 Marx on 95–7 parasitism 95–7 Interest Equalisation Tax (US) 39–40, 48 international banking index 108 international banking share 50, 70–1, 71 international community 117 international companies 112 international finance, drivers 51 international financial revenues, UK 10 International Financial Services Centre, Dublin 178 international financial transactions 98 international investment position, UK 200–1, 201 International Monetary Fund 14, 19, 27, 29, 56, 58–9, 73, 101, 164, 223 investment, advance of money 86–7 investment mandates 80 investment returns 131 Iran 59, 113, 172 Iraq, invasion of, 2003 7, 220 Ireland 4, 178, 205 Islamic bonds 220–1 Islamic finance 22, 219–21 Islamic Finance Task Force 221 Italy 4, 106, 107, 226 Japan 2, 4, 15, 38, 93, 163, 167 equity market capitalisation and turnover 181, 182 financial crisis 71 financial policy 67 foreign exchange trading 109 GDP 106, 107 international banking index 108 international banking share 50–1, 71, 71 Offshore Market 67 seigniorage 165 threat of 29 zaibatsu 94 jobbers 68 Johnson Controls 121 JP Morgan Chase 135–6 Juncker, Jean-Claude 175 Kennedy, John F. 34 Keynesianism in one country 67 Keynes, John Maynard 23–4, 30, 35 labour exploitation of 74 international division of 99 surplus 149 labour costs 98, 118–19, 155 Labour Party Conference, 1956 32 Tanzanian groundnut scheme 32 Lafarge 75 Lafont, Bruno 75 Lear Corporation 121 Lee, Jennie 32 legal tender 115 Lehman Brothers 125, 210 lender of last resort 116 Lend-Lease policy 29 Lenin, V.

The Physics of Wall Street: A Brief History of Predicting the Unpredictable
by James Owen Weatherall
Published 2 Jan 2013

At first glance nothing — but within a few years, futures trading at the IMM had expanded to include new derivatives based on currencies, including options. Because currency risk is an important part of any international transaction, currency derivatives very rapidly became essential to the international economy. And once again, as at the CBOE, the Black-Scholes model became an integral part of everyday trading life. Even more importantly, Black and Scholes pointed a way forward for modeling other derivatives contracts, too, which rapidly grew at the IMM as businesses sought new ways of protecting themselves against currency risk. Between the IMM and the CBOE, Black and Scholes found a world that was perfectly poised to take advantage of their new ideas.

The Devil's Derivatives: The Untold Story of the Slick Traders and Hapless Regulators Who Almost Blew Up Wall Street . . . And Are Ready to Do It Again
by Nicholas Dunbar
Published 11 Jul 2011

However, while such cleverness might have removed a bit of risk from Barclays’ balance sheet, they were not a perfect solution. When lending to risky ventures like Mexican companies, Barclays—like any bank—would demand a high interest rate as danger money—a risk premium. An investor in one of Usi’s credit-linked notes would also expect a high yield for taking on that exposure, even with the local Mexican currency risk hedged out. To truly free up Barclays’ balance sheet would mean shifting loans in amounts of $10 billion or more. But volume like that would require selling to the hate-to-lose heartland of regional banks, insurance companies, and pension funds that demanded investment-grade ratings. If Usi had tried to sell his risky Mexican corporate loans to these kinds of people, the credit police would have hit their sirens and blocked his way.

…

Partridge-Hicks and Sossidis were proud of their employer, but they would find their loyalty to Citi challenged by some of their big clients.4 The hate-to-lose Japanese banks and Swiss insurance companies were annoyed by all the products the Americans were trying to sell them, because everything had risks attached—high-rated bonds exposed the Japanese or Swiss to interest rate or currency risk, and junk bonds added credit risk. Was there any way to invest in just the highest-quality assets and have the risks stripped away? The next generation of innovative bankers would have produced a CDO in answer to such a request, but as Partridge-Hicks and Sossidis listened to the complaints, it sounded as if the Japanese and Swiss wanted to buy shares in a bank.

Paper Promises
by Philip Coggan
Published 1 Dec 2011

America gradually allowed commercial banks to move into the investment-banking market, reversing the strict separation that had been put in place in the 1930s. Free capital movements and floating exchange rates changed the financial sector in two big ways. First, they created the need for companies and investors to protect themselves against currency risk. The result was the development of financial futures markets, pioneered in Chicago, which traded first currencies, then fixed-income instruments, then equities. A vast, and profitable, derivatives market was born. Secondly, these huge capital movements created the need for bigger financial institutions.

…

Arguably, this is not the Fed’s proper role and creates the danger that the market will collapse if the Fed withdraws its support. Another possibility is that QE has proved more successful in reflating the economies of the developing world than the developed. Countries which peg their currency to the dollar effectively import US monetary policy, since investors are enticed by the prospect of higher returns with reduced currency risk. Inevitably, a currency peg also means that interest rates in the pegged countries cannot diverge too far from each other (unless, like the Chinese, you have extensive capital controls). In 2010, many developing countries found themselves dealing with rising inflation rates, driven by higher commodity prices.

Capital Ideas Evolving
by Peter L. Bernstein
Published 3 May 2007

“No value from that,” he argued. “You put in what you want to get out of it.” Black suggested an alternative approach. He happened to have just published a paper that developed an equilibrium solution to the problem bern_c15.qxd 3/23/07 9:12 AM Page 227 Goldman Sachs Asset Management 227 of how much foreign currency risk to hedge in global portfolios.6 The paper makes no reference to the behavior of optimizers; its focus was on currency hedging. Litterman thought Black’s idea sounded awfully academic and remained skeptical of the practical value of this approach. But Litterman learned that trying out Black’s recommendations was more productive than staring at a brick wall.

…

Bernstein, Peter, 1996. Against the Gods: The Remarkable Story of Risk, New York: John Wiley & Sons. Black, Fischer, 1986. “Noise,” Journal of Finance, Vol. 41 ( July), pp. 529–545. Black, Fischer, 1988. “Unobservables,” Fischer Black papers, Box 25. Black, Fischer, 1989. “Universal Hedging: Optimizing Currency Risk and Reward in International Equity Portfolios,” Financial Analysts Journal, July/August, pp. 16–22. Black, Fischer, and Robert Litterman, 1992. “Global Portfolio Optimization,” Financial Analysts Journal, September/October, pp. 28–43. Brock, Horace, 2006a. “Reconceptualizing ‘Market Risk’ from Scratch,” New York: Strategic Economic Decisions.

The Global Money Markets
by Frank J. Fabozzi , Steven V. Mann and Moorad Choudhry
Published 14 Jul 2002

Where currencies are exchanged at the start of the swap, at the prevailing spot exchange rate for the two currencies, the exact amounts are exchanged back on maturity. During the time of the swap, the parties make interest payments in the currency that they have received when principals are exchanged. It may seem that exchanging the same amount at maturity gives rise to some sort of currency risk, in fact it is this feature that removes any element of currency risk from the swap transaction. Currency swaps are widely used in association with bond issues by borrowers who seek to tap opportunities in different markets but have no requirement for that market’s currency. By means of a currency swap, a corporation can raise funds in virtually any market and swap the proceeds into the currency that it requires.

Vultures' Picnic: In Pursuit of Petroleum Pigs, Power Pirates, and High-Finance Carnivores
by Greg Palast
Published 14 Nov 2011

Black’s magic crew at Goldman looked at the stock market but, instead of seeing securities, saw simply a soup of financial molecules, which could be manipulated and sliced and rejoined in strange and wonderful combinations. The Model and its correlatives could be used to find risk and offset it. If General Motors sold cars in Mexico, it could offset its risk by betting that the peso would fall. The currency risk had been “hedged,” eliminated. “Hedge funds” could be created for the buying and selling of financial “products” that would each incorporate one of these risks. It’s just like hedging your big bet at the race track by placing a little one on the other ponies. Hedge funds, as their names imply, could reduce the risk of financial crisis for companies, for investors, for the planet.

…

Remove the control, and eliminate the city of Hiroshima. Back at Goldman, and then at other investment banks, the experiments with financial molecules continued. Then, the financial science turned weird. Turned dangerous. If you could extract the risk of currency fluctuations from GM stock, you could also derive from this currency-risk security another security that would extract the risk of the fluctuations in the first security and then a security that would fluctuate with the security that moved with that new security, and so on and so on. Securities that were themselves “derived” from the movements of still other securities began to form in the financial universe.

Inside the House of Money: Top Hedge Fund Traders on Profiting in a Global Market
by Steven Drobny
Published 31 Mar 2006

By July 1997, the Central Bank of Thailand saw its foreign currency reserve position dwindle in a futile effort to defend their currency regime and was left with little choice but to abandon the trading band. Without central bank support, the Thai baht immediately fell by 23 percent against the USD. (See Figure 2.9.) Lenders to Southeast Asian countries panicked en masse, withdrawing capital from the region or hedging their currency risk, which further depressed the Asian currencies. At the same time, locals 20 INSIDE THE HOUSE OF MONEY 50 45 Baht per Dollar 40 35 Start of the Asia Crisis 30 25 FIGURE 2.9 98 nJa 97 cDe 97 vNo 7 t-9 Oc 97 pSe Au g- 97 7 l-9 Ju Ju n- 97 7 -9 ay M Ap r-9 7 7 M ar -9 97 bFe Ja n- 97 20 Thai Baht, 1997 Source: Bloomberg.

…

In the meantime, you earn very nice carry waiting for these events in an economy with excellent fundamentals. In terms of funding the trade, Leitner is running it 50 percent domestically funded (positive carry of 1.5 percent) and 50 percent USD funded, with positive carry of 6 percent and with long Europe versus USD currency risk. Andres Drobny 66 THE FAMILY OFFICE MANAGER 67 Turkish currency forwards is going to pique your curiosity.The only thing systematic about finding these unsystematic trades is how we approach the world.We systematically look across the world’s markets every day in order to find the unsystematic opportunities.

Stocks for the Long Run, 4th Edition: The Definitive Guide to Financial Market Returns & Long Term Investment Strategies
by Jeremy J. Siegel
Published 18 Dec 2007

But since British interest rates were, on average, substantially higher than interest rates in the United States, the cost of hedging exceeded the depreciation in the pound. Thus investors’ dollar returns were higher if they owned British stocks without hedging them than their dollar returns if they owned British stocks and paid to hedge them. Furthermore, for investors with long-term horizons, hedging currency risk in foreign stock markets is not important. In fact, there is some evidence that in the long run, currency hedges might actually increase the volatility of dollar returns.9 In the long run, exchange-rate movements are determined primarily by differences in inflation between countries, a phenomenon called purchasing power parity.

…

In fact, there is some evidence that in the long run, currency hedges might actually increase the volatility of dollar returns.9 In the long run, exchange-rate movements are determined primarily by differences in inflation between countries, a phenomenon called purchasing power parity. Since equities are claims on real assets, their long-term returns have compensated investors for changes in inflation and thus protected investors from exchange-rate risk. Therefore, it is not worth the cost for long-term stock investors to hedge their currency risk. Sector Diversification Although the returns between foreign and U.S. stocks might be increasingly correlated, the returns between international industrial sectors are not becoming more correlated. The trends in correlations between the major world industry sectors as classified by the Morgan Stanley Capital Market Indexes are shown in Figure 10-4.

Efficiently Inefficient: How Smart Money Invests and Market Prices Are Determined
by Lasse Heje Pedersen
Published 12 Apr 2015

This practice reduces the arbitrage spreads, but competition between stat arb traders often does not entirely eliminate the spread. Trading on these spreads requires a constant monitoring of the market from identifying mispricing in the first place, understanding the contractual rights of the different types of shares, and executing the trade. The trade execution involves transaction costs and often currency risk that needs to be hedged. The arbitrage spread would be zero in a perfectly efficient market, so non-zero spreads provide clear evidence of market inefficiencies. The spreads are efficiently inefficient, however, in the sense that spreads are larger when the arbitrage trade is riskier and more costly to implement and when arbitrage capital is more scarce.

…

Therefore, exploiting the carry trade has risk, especially if the trade is leveraged. For instance, a macro trader might decide to leverage the Aussie–yen trade three times to earn a carry of 3 × 4% = 12%, but this method would expose him to large potential losses if the Australian dollar suddenly depreciated sharply. The idiosyncratic currency risk can be diversified away by investing in a number of high-interest currencies while shorting several low-interest currencies, but diversification does not cure the risk of carry-trade crashes since during so-called “carry-trade unwinds,” most high-interest-rate currencies fall together. This is seen in figure 11.1, which shows the distribution of the quarterly profits from a currency carry trade.

Shutdown: How COVID Shook the World's Economy
by Adam Tooze
Published 15 Nov 2021

From 2014 onward, foreign investors were no longer big buyers in net terms, but they already had huge holdings of U.S. Treasuries and they rolled those over uncomplainingly. If you were the foreign exchange reserve manager of a big emerging market central bank, you held Treasuries against the currency risk that business borrowers in your jurisdiction had incurred by borrowing in dollars. Everyone held them on the assumption that they could be sold or repoed in markets of limitless liquidity. Crucially, you assumed that you could liquidate your holdings without affecting their price. If that was not true, then all other bets were off too.

…

Indeed, with larger and complicated debt markets came the risk of bigger panics. As in an advanced economy, the central bank might then have to step in to stabilize the market. Foreign lenders, on the other hand, bore the risks resulting from fluctuating bond prices and exchange rates. A second crucial lesson was not to lessen the currency risk for foreign lenders by attempting to peg exchange rates. Fixing the exchange rate against the dollar or the euro offered a mirage of stability. In good times, it would attract excessive inflows of foreign capital. In bad times, money would run, and in that event, it was both futile and expensive to try to maintain a dollar peg.

The Little Book of Common Sense Investing: The Only Way to Guarantee Your Fair Share of Stock Market Returns
by John C. Bogle
Published 1 Jan 2007

As the argument goes, “Isn’t omitting non-U.S. stocks from a diversified portfolio just as arbitrary as, say, omitting the technology sector from the S&P 500?” I argued the contra side. We Americans earn our money in dollars, spend it in dollars, save it in dollars, and invest it in dollars, so why take currency risk? Haven’t U.S. institutions been generally stronger than those of other nations? Don’t half of the revenues and profits of U.S. corporations already come from outside the United States? Isn’t U.S. gross domestic product (GDP) likely to grow at least as fast as the GDP of the rest of the developed world, perhaps at an even higher rate?

The Scandal of Money
by George Gilder
Published 23 Feb 2016

It is still apparently rising fast. BIS will give us the details in 2016. Are you ready for an average billion-dollar trading second? Providing entrepreneurs with accurate measurements of the relative value of all the world’s hundreds of different moneys, the float makes fungible funds available on the spot without currency risk. In other words, with vastly greater speed and automated efficiency, the system performs the role previously played by the gold standard, while at the same time enabling every country to follow its own monetary policy. In light of this indispensable double service, combining two apparently incompatible goals, no one has complained about inadequate liquidity or performance.

Wall Street: How It Works And for Whom
by Doug Henwood
Published 30 Aug 1998

Returns on foreign investment were 5%, twice the return available from U.K. government bonds. By contrast, Japan's surplus of 19% of GDP looks modest (see chart) compared to Britain at its peak, and 5% returns are regarded as minimal today. Since almost all these flows were denominated in gold, there was no currency risk — unless some country was bold enough to take the wicked step of renouncing gold. Of course, the flip side of currency risk — the opportunity to speculate in currencies themselves (more than in the un- PLAYERS derlying assets denominated in those currencies), which became one of the prime movers behind global capital flows in the 1980s — was reduced.

The Shifts and the Shocks: What We've Learned--And Have Still to Learn--From the Financial Crisis
by Martin Wolf
Published 24 Nov 2015

The federal government finances a large part of government spending directly. Workers move easily across the federation. In this situation, the collapse of even a large property boom in a particular region, in Florida, for example, cannot bring down the banking system there, since the federal government helps ensure its survival. There is also no currency risk in lending to Florida, since the possibility of secession from the dollar area does not arise. The US fought a brutal civil war in the nineteenth century to make it clear that secession was impermissible. There is no capital flight from Florida, for the same reason. Viable companies located there continue to have access to credit.

…

Never can there have been a better example of the need to be careful about what one wishes for. The best analysis of how the nature of demand for financial assets generated risk within the financial system is by Anton Brender and Florence Pisani of Paris Dauphine.43 In essence, they argue, foreign governments accumulated assets on which they took the foreign-currency risk. But, so far as they could, they took no other risks. They were looking for riskless assets. In essence, the financial system had to convert foreign lending that would not take credit risk into financing of risky domestic assets. In doing so the system itself accumulated a great deal of risk. But it did so by creating instruments so opaque that they were perfectly designed to conceal that risk – from the point of view of almost every player.

Security Analysis
by Benjamin Graham and David Dodd
Published 1 Jan 1962

Consider the challenges posed to the would-be global investor by local corporate governance and management practices; restrictions on capital movements; variations in taxation; differences in language, culture, and political stability; unusual hours at which trades are executed; complexity of foreign exchange transactions; currency risks; and logistics involved in managing custody of foreign securities. Why bother? Oddly enough, it was Omaha, Nebraska’s Warren Buffett who cleared a path for me through this minefield. A guest lecturer in Professor McDonald’s class, Buffett was not and still is not a specialist in global investing.

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Global Investing in Practice Since embarking on my own course of investing abroad over 20 years ago, I have encountered challenges relating to currency fluctuations, accounting practices, corporate disclosure, trading, and execution as well as my share of administrative barriers. While each of these challenges has abated over the years as non-U.S. markets have become somewhat more oriented to global investors, they all remain obstacles for many investors seeking to go global. Currency Risk I have often been quizzed by prospective investors about how I planned to protect against the risk of adverse foreign currency fluctuations. While some American investors prefer to hedge all foreign currency exposure back to U.S. dollars, I believe investor interests are best served by diversifying currency holdings.

…

Paul Railway Company, 242 Chicago, Rock Island and Pacific Railway Company, 596, 646, 684 Chicago, Terra Haute, and Southeastern Railway Company, 203n, 209 Chicago and Eastern Illinois Consolidated, 152 Chicago and Eastern Illinois Railroad, 199n Chicago and North Western Railway, 153, 182, 202n, 249n Chicago Great Western Railroad Company, 97, 694 Chicago Herald and Examiner, 147n Chicago School, 281 Chicago Yellow Cab Company, 461n Chieftain Capital Management, 397 Chile, 175 Chile Copper Company, 636n China, 175 Choctaw and Memphis Railway Company, 684–685 Chrysler, 512n Cities Service Company, 595 Citigroup, 346 City of Detroit, 683 Classification of securities, 112–119 conventional, objections to, 112–115 new, suggested, 115–119 Clover Leaf Corporation, 645 Cluett Peabody, 383n Coca-Cola Company, 29, 59–60, 397, 483, 500, 551, 676 Collateral-trust bonds, 182–183 Collins & Aikman, 93n Colorado Fuel and Iron Company, 194, 203, 596, 694 Colorado Industrial Company, 596, 694 Columbia, 175 Columbia Gas and Electric Company, 434n Comcast, 274, 275, 401–402 The Commercial and Financial Chronicle, 97 Commercial bankers as investment advice source, 259 Commercial Investment Trust Corporation, 290n, 311, 598 Commercial Mackay Corporation, 235n Commercial Solvents, 555–557 Commissions, reports to, as information source, 94–95 Common stock(s), 28–35, 338–392 basis of valuation and, 349 book value of, preferred stocks and, 550–551 future of corporate profits and, 31 individual growth as basis for investing in, 368–372 interest rates and, 34 investment prestige of, 349 as long-term investments, 358–359 low-priced, 520–526 margin of safety as basis for investing in, 372–375 market behavior of standard and nonstandard issues of, 677–679 price-earnings ratios for (see Price-earnings ratios) quality differentials and, 31–34 “secondary” or little-known issues of, 672–677 secular expansion as basis for investing in, 367–368 selling below liquidating value (see Sub-liquidating value common stocks) speculative (see Speculative common stocks) speculative senior issues distinguished from, 325–327 timing of investment in, 34–35 valuation of, 497 Wall-Street method of appraising, 410–411 watering of, plowing back due to, 383–384 Common stock analysis, 348–365 dividends and, 376–392 history of, 349 instability and, 350–353 merits of, 348–349 new-era theory of investing and, 356–365 prewar conception of investing and, 354–356 Common Stock Indexes (Cowles), 362n, 527n The Common Stock Theory of Investment, Its Development and Significance (Bosland), 4, 17, 362n Common Stocks as Long Term Investments (Smith), 17, 361 Common-stock dividends, 376–392 arbitrariness of dividend policies and, 382–383 plowing back, 381, 383–384 withholding of, 378–381 Commonwealth and Southern Corp., 195 Commonwealth Edison Company, 292–293, 296 Companies (see Enterprises) Companies’ Creditors Arrangement Act, 233n Comparative analysis: general limitations on, 668 of public utilities, 660–668 quantitative elements in, 665 of railroads, 654–659 variations in homogeneity affecting, 665, 667–668 Competition, real estate bonds and, 217 Congoleum Company, 684, 691 Congoleum-Nairn, 684 Congress Cigar Company, Inc., 316 Consolidated Edison Company of New York, 94, 244n, 444n Consolidated Gas Company of New York, 94, 444n Consolidated Oil Corporation, 466n, 635 Consolidated reports, 443–452 allowance for nonconsolidated profits and losses and, 445–446 degree of consolidation and, 444 earnings distortion by parent-subsidiary relationships and, 447–449 former and current practices and, 444 special dividends paid by subsidiaries and, 447 subsidiaries’ losses and, 449–452 Consolidated Textile Corporation, 314n Consolidated Traction Company of New Jersey, 227 Contagion, real estate bonds and, 217 Continental Baking Corporation, 480, 652 Continental Can Company, 91, 461 Continental Motors Corporation, 523n Continental Oil Company, 468 Continental Steel, 245, 663–664, 666 Convertible issues, 313–322 combination with stock purchase, 321 convertible at option of company, 319 convertible into other bonds, 320 convertible into preferred stock, 318–319 delayed, 321–322 dilution and, 313–315 with original market value in excess of par, 320–321 price behavior of, 306–307 sliding scales to accelerate conversion and, 315–318 Corn Products Refining Company, 160n, 201n, 606, 607, 611–613 Corporate pyramiding, 644–653 alternative methods of creating speculative capital structure and, 652–653 evils of, 647–651 holding companies not guilty of, 651–652 legal restraints on, 652–653 Corporation Records Service (Standard Statistics), 93n Costa Rica, 175 Cottle, Sidney, 123 Coty, Inc., 485 Coudersport, PA, 274 Counsel as investment advice source, 261 Court-Livingston Corporation, 113n Cowles, Alfred, III, 362n, 527n Cox Communications, 274 Cram’s Auto Service, 57, 95 Crash of 1929, Graham’s position and, 16 Credit default swaps (CDSs), 622 Credit risk, Oaktree Capital Management investment methodology and, 132 Critical Path, 267 Crucible Steel, 330 Cuba, 175 Cuban Atlantic Sugar Company, 584n Cudahy Packing Company, 129, 148–149, 460n Currency risk, 716–717 Current-asset value, 553–554, 559–574 liquidating value and, 559 realizable value of assets and, 560–562 stocks selling below liquidating value and (see Sub-liquidating value common stocks) Curtis Publishing, 689n Cushman’s Sons, Inc., 450–451 Czecho-Slovakia, 175 D Daekyo Corp., 51 Davis, William Milton, 275 Davis Coal and Coke Company, 529n, 532n, 568, 584n Dawes Loan, 173n Dawson Railway and Coal, 320n Day v.

Models. Behaving. Badly.: Why Confusing Illusion With Reality Can Lead to Disaster, on Wall Street and in Life
by Emanuel Derman
Published 13 Oct 2011

There are sweetness and tartness, spiciness and blandness, smoothness and lumpiness, all of them different types of gustatory pleasure. And I have ignored other kinds of mentionable and unmentionable bodily pleasures, which have their pleasure premiums too. Similarly, there is more than one kind of risk and more than one kind of risk premium: stock risk and bond risk and currency risk and commodity risk and slope-of-the-yield-curve risk; and within the universe of stocks there is sector risk—health risk, technology risk, consumer durables risk, et cetera. In physics the values of the fundamental constants (the gravitational constant G, the electric charge e, Planck’s constant h, the speed of light c) are apparently timeless and universal.

The Simple Path to Wealth: Your Road Map to Financial Independence and a Rich, Free Life
by J L Collins
Published 17 Jun 2016

The readers of www.jlcollinsnh.com are an astute bunch and the missing asset class they ask about most frequently is international stocks. Since almost every other allocation you come across will include an international component, why doesn’t our Simple Path? There are three reasons: Added risk, added expense and we’ve got it covered. 1. Added Risk Currency risk. When you own international companies they trade in the currency of their home country. Since those currencies fluctuate against the U.S. dollar, with international funds there is this additional dimension of risk. Accounting risk. Few countries—especially in emerging markets—offer the transparent accounting standards required here in the U.S.

Boomerang: Travels in the New Third World
by Michael Lewis
Published 2 Oct 2011

As I often think I know exactly what I am doing even when I don’t, I find myself sympathetic. “What, exactly, was your job?” I ask, to let him off the hook, catch and release being the current humane policy in Iceland. “I started as a . . .”—now he begins to laugh—“an adviser to companies on currency risk hedging. But given my aggressive nature I went more and more into plain speculative trading.” Many of his clients were other fishermen, and fishing companies, and they, like him, had learned that if you don’t take risks you don’t catch the fish. “The clients were only interested in ‘hedging’ if it meant making money,” he says, and begins to laugh hysterically.

Sabotage: The Financial System's Nasty Business
by Anastasia Nesvetailova and Ronen Palan
Published 28 Jan 2020

The company can come to an agreement with a bank or another financial institution for the purchase of dollars (or, more often, for an option to purchase dollars) at a certain predetermined rate in, say, two years’ time. If the dollar falls in the meantime, the car company would still be making profits because it hedged against the fall in the dollar. The car company hedged its currency risk by buying an ‘option’ – a contract that gives its holder the right to buy a particular asset at a specific price in the future. Such contracts clearly are essential instruments in today’s business planning. It is estimated that about 80 per cent of global trade is intra-firm trade. It is necessary for such firms to hedge against currency, interest rates and commodity price fluctuations.

All the Devils Are Here
by Bethany McLean
Published 19 Oct 2010

By 1994, the year Weatherstone retired, Fortune could quote a bank executive calling them “the basic business of banking.” The essential purpose of derivatives has always been to swap one kind of risk for another; that’s why many common derivatives are called swaps. The earliest derivatives attempted to mitigate interest rate risk and currency risk. In the volatile economic environment of the 1980s, when interest rates and currency values could swing suddenly and unpredictably, big companies were desperate for ways to protect themselves; derivatives became the way. An interest rate swap allowed a company to lock in an interest rate and pay a fee to another entity—a counterparty, as they were called on Wall Street—willing to take the risk that rates would suddenly jump.

…

Although, as an insurance company, AIG was in the risk business, it did not necessarily follow that insurance companies were diving into derivatives. Insurance companies were generally conservative institutions; if they used derivatives at all, it was as a customer of a big bank like J.P. Morgan, trying to hedge an interest rate or a currency risk. Under Greenberg, AIG had built a reputation for its willingness to take on unusual, one-of-a-kind risks: AIG wrote kidnapping insurance, it insured satellites, it even wrote insurance on the first ostrich farm in Texas. Greenberg used to boast that AIG’s balance sheet was so big that it could take on risks other companies couldn’t.

The Oil Factor: Protect Yourself-and Profit-from the Coming Energy Crisis
by Stephen Leeb and Donna Leeb
Published 12 Feb 2004

It is PetroChina, the huge Chinese oil producer, whose ADRs (American Depository Receipts) trade on the New York Stock Exchange. We cover it in more detail in chapter 15, where we discuss the reasons behind Warren Buffett’s decision to take a significant stake in the company. In the years ahead, investors should also keep a careful eye on Russian oil companies. For now, however, in our view the currency risks associated with the Russian ruble make investing in Russian companies too risky for all but the most seasoned pros. . . . Oil Service Companies . . . We noted above that we’re less enthusiastic about the oil service companies than we were in the past. In past periods of rising oil prices and inflation, they were the industry sector most leveraged to rising oil prices, and they made the most spectacular gains, though intermittently they also would suffer stomach-churning drops.

Stigum's Money Market, 4E
by Marcia Stigum and Anthony Crescenzi
Published 9 Feb 2007

If so, it will borrow fixed-rate Swissy; then, it will either swap (1) to fixed-rate dollars and then to dollar LIBOR or (2) directly to dollar LIBOR. When a market maker in cross-currency swaps arranges such a swap, it goes into his book of cross-currency swaps which he seeks to manage much as he manages his dollar-swap book: without interest-rate risk and without currency risk. Dealers do take lots of currency risk, but they try to confine their taking of it to their foreign-exchange desks. To be a market maker in cross-currency swaps, cocktailed or straight, a dealer needs a wider market presence and even sharper risk management and hedging skills than he does if he just runs a dollar-swap book.

…

For the investor, selling multicurrency commercial paper is just like selling U.S. dollar-denominated paper except that the transaction settles with a two-day lag to permit settlement of the foreign-exchange transactions required at issuance of the paper. UCP had an enthusiastic reception with borrowers who felt it permitted them to shave a few basis points off their cost of funds. Said one, “We’d do rubles, if we could hedge them.” The multicurrency buyer takes a currency risk, but her reward is higher yield and the opportunity for appreciation. One satisfied buyer, a fixed-income manager at a major insurance company, said, “What makes this paper unique is that you can decide which foreign exchange you want to take your risk in, deal with credit risks you’re familiar with, and be paid for that risk—all without foreign custodians.”

…

Treasuries (and repos against them), only in Treasuries and agencies (and repos against them), only in prime domestic money market instruments, only in prime domestic and Euro money market instruments, and only in domestic prime and Euro and Yankee instruments. There are also funds that invest on a fully hedged basis in prime money market instruments worldwide; this means, for example, that the fund might buy a high-yield, Aussi-dollar, short-term asset and hedge the resulting currency risk by selling Aussi dollars forward. That’s called covered interest arbitrage, and big corporates have long been doing it. With the globalization of financial markets, covered interest arbitrage is fairly common for both investors and borrowers.1 The first tax-exempt money funds were designed to produce income that was exempt from federal income taxes.

Big Debt Crises
by Ray Dalio
Published 9 Sep 2018

This has an accelerating downward impact on asset prices, income, and wealth. 4) The “Depression” In normal recessions (when monetary policy is still effective), the imbalance between the amount of money and the need for it to service debt can be rectified by cutting interest rates enough to 1) produce a positive wealth effect, 2) stimulate economic activity, and 3) ease debt-service burdens. This can’t happen in depressions, because interest rates can’t be cut materially because they have either already reached close to 0 percent or, in cases where currency outflows and currency weaknesses are great, the floor on interest rates is higher because of credit or currency risk considerations. This is precisely the formula for a depression. As shown, this happened in the early stage of both the 1930–32 depression and the 2008–09 depression. In well managed cases, like the US in 2007–08, the Fed lowered rates very quickly and then, when that didn’t work, moved on to alternative means of stimulating, having learned from its mistakes in the 1930s when the Fed was slower to ease and even tightened at times to defend the dollar’s peg to gold.

…

On October 9, in an effort to attract investors, the New York Federal Reserve Bank increased the discount rate from 1.5 percent to 2.5 percent. This was no different than tightening, which is not a path to good things in a depression. Classically, in a balance of payments crisis, interest rate increases large enough to adequately compensate holders of debt in weak currency for the currency risk are way too large to be tolerated by the domestic economy, so they don’t work. This was no exception, so a week later, the New York Fed again raised its interest rate to 3.5 percent.129 Rumors flew that the head of the New York Fed, George Harrison, had asked the French not to withdraw any more gold from the United States.130 Given the domestic difficulties, investors in the US had taken to hoarding gold and cash.

I.O.U.: Why Everyone Owes Everyone and No One Can Pay
by John Lanchester
Published 14 Dec 2009

Swaps first arrived in the corporate world in 1981. The first of them featured IBM exchanging surplus Swiss francs and deutsche marks for dollars held by the World Bank: the two institutions exchanged their bond earnings and their obligations to bondholders without actually exchanging the bonds. They needed to hedge their currency risks and increase their holdings in other currencies, and they chose to do so through a swap rather than going through the expense, and the risk, of issuing new bond instruments or making new currency investments of their own. A word here about bonds. In business, companies regularly need to raise money—to raise capital.

The Handbook of Personal Wealth Management
by Reuvid, Jonathan.
Published 30 Oct 2011

They can be seen as an ‘easy sale’, but in reality, the market is pricing in many risks to create the product, such as the credit risk and counterparty risk as well as other factors such as dividends, volatility and interest rates. These instruments allow fund managers to bet on foreign markets with no currency risk (or return), or to generate the potential of positive returns from flat, falling or rising markets with or without capital protection and can be traded on a daily basis. The structured-product industry was truly stress tested during the sub-prime debacle, as were the nerves of equity investors.

Blindside: How to Anticipate Forcing Events and Wild Cards in Global Politics
by Francis Fukuyama
Published 27 Aug 2007

By 1997 Thailand had a residential vacancy rate of 25–30 percent and a commercial vacancy rate of 14 percent, with many large buildings still awaiting completion. The lending boom created two interwoven forms of vulnerability for the Thai private sector. First, the overinvestment in real estate created credit-quality risks. Second, many borrowers had financed their activities in dollars and thus faced a currency risk if the Thai baht were devalued. But investors were not particularly worried about this. Thailand had a history of financial crises, but none had led to a major economic meltdown. In 1983–85, for example, a crisis led to a government bailout of the banks and a 25 percent devaluation of the baht.

Birth of the Euro
by Otmar Issing
Published 20 Oct 2008

Firstly, in a monetary union the exchange rate risk associated with denominating sovereign debt in the national currency disappears. All debt is in the common currency, the euro. This removes the decisive sanctioning mechanism that operates via worldwide investors’ risk assessment and translates into rising risk premia due to the higher currency risk. Secondly, any risk premia on interest rates in the event of an unsound fiscal policy – as compensation for doubts about a country’s solvency – generally remain very limited over an extended period 13 The ongoing debate in the federal state of Germany about the Finanzausgleich, the system for revenue equalisation across different levels of government, is an instructive illustration of how important this clause and its absolute credibility are. 

Frequently Asked Questions in Quantitative Finance
by Paul Wilmott
Published 3 Jan 2007

These out-of-the-money puts therefore tend to be quite expensive in volatility terms, although very cheap in monetary terms. Quanto is any contract in which cashflows are calculated from an underlying in one currency and then converted to payment in another currency. They can be used to eliminate any exposure to currency risk when speculating in a foreign stock or index. For example, you may have a view on a UK company but be based in Tokyo. If you buy the stock you will be exposed to the sterling/yen exchange rate. In a quanto the exchange rate would be fixed. The price of a quanto will generally depend on the volatility of the underlying and the exchange rate, and the correlation between the two.

Buying Time: The Delayed Crisis of Democratic Capitalism
by Wolfgang Streeck
Published 1 Jan 2013

As early as 1990, when Germany agreed to the euro in return for French acceptance of reunification, it had been decided that the three structurally weak Mediterranean countries would join the monetary union as a kind of growth and convergence programme, whereby ensured access to West European markets and the elimination of currency risks for foreign investors would cause a swift blossoming of their economies. First, however, the interest rates to be paid by the Mediterranean states to finance their public deficits and refinance their growing public debt fell rapidly, already in the period leading up to monetary union, and by the time of its official launch they stood more or less at the same level as in Germany (Fig. 3.7).

Finding Alphas: A Quantitative Approach to Building Trading Strategies
by Igor Tulchinsky
Published 30 Sep 2019

Soft neutralization consists of capping the exposure to the given risk, either by subtracting a portion of the exposure or by using a constrained optimization method to produce the positions. Hedging consists of using one instrument or set of instruments as a hedge against the risk incurred by other instruments or sets of instruments. For instance, one can hedge the market beta of an equity portfolio via S&P 500 futures or exchange-traded funds, or the currency risk of a global bond portfolio via currency spots or futures. The resulting risk control is not perfect, as the hedge is imperfectly correlated with the underlying risk, but it is often useful in cases where neutralization is Risk and Drawdowns109 impractical, such as when shorting is impossible or excessively costly, or the risk is a short-term event risk and the hedge is more liquid than the underlying portfolio.

Grave New World: The End of Globalization, the Return of History
by Stephen D. King
Published 22 May 2017

To avoid this, there needs to be a better burden-sharing arrangement between creditors and debtors, such that creditors have less incentive to export their savings in ways that are only likely to cause trouble for debtors following an unexpected future economic setback. One option is simply to move back to a world in which exchange rates are completely flexible. That would mean, most obviously, allowing the euro to break up. Currency flexibility would, by definition, introduce currency risk. German savers – to take an obvious example – would then have to think twice about investing their money in Southern Europe because, even in the absence of a formal default, countries like Italy and Greece would then have the option of devaluation to bail themselves out if faced with difficult circumstances.

The Power of Passive Investing: More Wealth With Less Work
by Richard A. Ferri
Published 4 Nov 2010

coupon/coupon rate The interest rate that a bond issuer promises to pay the bondholder until the bond matures. credit rating A published ranking, based on careful financial analysis, of a creditor’s ability to pay the interest or principal owed on a debt. credit risk The possibility that a bond issuer will fail to repay interest and principal in a timely manner. Also called default risk. currency risk The possibility that returns from investments in foreign securities could be reduced because of a rise in the value of one’s own currency compared to foreign currencies. Also called exchange-rate risk. custodian Either (1) a bank, agent, trust company, or other organization responsible for safeguarding financial assets or (2) the individual who oversees the mutual fund assets of a minor’s custodial account.

The Wealth of Humans: Work, Power, and Status in the Twenty-First Century
by Ryan Avent
Published 20 Sep 2016

Office buildings also filled up with highly skilled workers. Management became more important. As operations grew more complex and spread across borders, the need for trained lawyers, accountants and financial officers exploded. Companies suddenly needed to manage the effects of things such as currency risk and international financial and accounting rules on the flow of profits across borders. Firms also began taking a more sophisticated approach to marketing and public relations: steps that further increased the demand for highly skilled workers. The workforce of the early industrial era was not exactly ready to waltz into the laboratory or the executive suite.

The Investopedia Guide to Wall Speak: The Terms You Need to Know to Talk Like Cramer, Think Like Soros, and Buy Like Buffett
by Jack (edited By) Guinan
Published 27 Jul 2009

Some of the emerging economies in the index are Argentina, Brazil, Chile, China, Colombia, Czech Republic, Egypt, Hungary, India, Indonesia, Israel, Jordan, Korea, Malaysia, Mexico, Morocco, Pakistan, Peru, Philippines, Poland, Russia, South Africa, Taiwan, Thailand, Turkey, and Venezuela. Investopedia explains MSCI Emerging Markets Index Emerging markets are considered relatively risky because they carry additional political, economic, and currency risks. They certainly are not for those who value safety and security above all else. An investor in emerging markets should be willing to accept greater risks for potentially greater returns. An upside to emerging markets is that their performance generally is correlated less with that of developed The Investopedia Guide to Wall Speak 191 markets.

MONEY Master the Game: 7 Simple Steps to Financial Freedom
by Tony Robbins
Published 18 Nov 2014

David Swensen puts a lot of weight in foreign stocks because of the diversity they bring to the portfolio. If there’s a slump in America, business may be booming in Europe or Asia. But not everybody agrees with David. Foreign currencies aren’t as stable as good old US greenbacks, so there’s a “currency risk” in investing in foreign stocks. And Jack Bogle, the founder of Vanguard, with 64 years of success, says that owning American companies is global. “Tony, the reality is that among the big corporations in America, none are domestic,” he told me. “They’re all over the world: McDonald’s, IBM, Microsoft, General Motors.

…

Kyle, 10, 173–75, 281, 455, 456, 514–22, 514 Beating the Dow (O’Higgins), 398 Bebchuk, Lucian, 461 Beecher, Henry Ward, 24 behavioral economics, 38, 301 Benartzi, Shlomo, 37, 66–67 benchmarks, 146–47 Benioff, Marc, 15, 173, 599 Berg, Joel, 597 Berkshire Hathaway, 459, 486 Bernanke, Ben, 165–66, 518, 520 Berra, Yogi, 352 Biggs, Barton, 96 billionaires vs. millionaires, 208–10 Black Monday crash (1987), 15, 46–47, 350, 488, 493 Blakely, Sara, 270–71, 485 Bogle, John C., 454, 457, 476 on active vs. passive management, 100, 165, 533–34 on annuities, 168 on asset allocation, 482, 483–84 author’s interview with, 47, 85, 321, 411–12, 476–84 on bonds, 336 on dollar-cost averaging, 355 on ETFs, 322 on fees, 107, 110, 274 and index funds, 97, 320, 419–20, 473, 487 on international portfolios, 328 on mutual funds, 102, 116, 118, 144, 157, 533–34 and Vanguard, 10, 95, 97, 144, 328, 411 Bohr, Niels, 352 Bolt, Usain, 95 bonds, 315–20 corporate, 318–19 cumulative losses in, 383 and deflation, 386 emerging-market, 527 foreign government, 317, 319 guaranteed rate of return in, 306 high-yield (junk), 318, 323 index funds, 305, 319, 320 and interest rates, 158, 304, 315 investing your age in, 336 municipal, 319–20 mutual funds, 158 price fluctuations in, 305 rating system for, 318 and safety, 158 in Security/Peace of Mind Bucket, 303–5, 306, 315–20 and stocks, 158, 160, 329–30 T-bills, 316 T-bonds, 316 TIPS, 316–17 T-notes, 316 US Treasuries, 305, 316–18, 328–29, 400, 473, 474 Bono, 596 Branson, Richard, 172, 173, 190, 208, 530 break-even point, 401 breakthroughs, 184–85 compounding, 192–93 creating, 186–99 in story, 188–95 in strategy, 187–88, 199 in your state, 196–99 Bridgewater Associates, 21, 99, 374–75, 397, 496–97 Brin, Sergey, 377 brokers, 86–87, 112, 121–37 discount brokerages, 530 Enron promoted by, 133–34 and fiduciaries, 126–28, 137, 180 sales charge (load) paid to, 115 suitability standard, 125–26 Brookner, Anita, 314 Brown, Jeffrey, 90–91, 135, 152–53, 162, 163, 407, 417–18, 424 Buffett, Warren, 10, 34, 102, 459, 485 author’s interview with, 454, 485–87 on bonds, 158 buying great companies, 486, 491, 492, 536 and Coca-Cola, 460 and compounding, 49 and dollar-cost averaging, 358 and Giving Pledge, 392, 512, 595 on index funds, 92, 95, 487 on investing in oneself, 262 on market fluctuations, 351 on risk, 89 rules of investing, 173, 300, 373 and Today, 270, 485 Business Mastery, 241–42 business owners: and automatic savings, 65, 69 cash-balance plans, 155 and 401(k)s, 146–48, 152, 153, 181 Butcher vs. the Dietitian, The (YouTube), 127–28, 180 California, taxes in, 288–89 Callahan, Patrick, 499 Callanan, David, 431 call and put options, 325 Campbell, Joseph, 48 Canada, strong banks in, 177, 310 Carnegie, Andrew, 19, 447, 594–95 Carnegie, Dale, 262 car ownership, 252–53 Caruso, Bob, 598 cash-back websites, 255–56 cash-balance (CB) plans, 155, 156 cash/cash equivalents, 302–3 holding too much in, 306 tax-free growth of, 442–43 cash drag, 115 Castro, Julian, 485 causation vs. correlation, 384 CDs: market-linked, 178–79, 305, 306 in Security/Peace of Mind Bucket, 305, 306 certainty/comfort, 75, 206 Chambers, John T., 530 Chantal (Rwandan orphan), 592–93 child slavery, 600 China, death by a thousand cuts in, 109 Churchill, Winston, 188, 244, 457, 588 clarity, as power, 611 Clason, George Samuel, 69 Clinton, Bill, 553 Cloonan, James, 87 clothing, breathable, 567 cloud computing, xxvii Club of Rome, 556 Coca-Cola, 460, 566 Coelho, Paulo, 225 cognitive illusions, 38–39 cognitive limitations, 41 cognitive understanding, 42 collectibles, 324 commodities, 324 community service, 342–43 complexity, 41, 206 compounding, 35–36, 49–52, 58, 256, 364 fees, 106–9, 479 financial breakthrough of, 192–93 rule of 72 in, 283 savings, 60, 62–65, 238, 280 and taxes, 235, 277–78, 279, 445–46 and time, 311, 312 Connally, John B., 372 connection, 77 consumer spending, 213, 562 contrast, 245 contribution, 77–78, 266–67, 585 control, illusion of, 422, 580 Coppola, Francis Ford, 6, 52–53, 60 corporate bonds, 318–19 correlation vs. causation, 384 cortisol, 197 Costa Rica, moving to, 291 cost calculator, 111 creativity, 193, 266–67 credit-default obligations (CDOs), 325 critical mass, 33, 58, 89, 90, 408 Cuban, Mark, 281 Cuddy, Amy, 197 Cunningham, Keith, 133–34 currencies, 324, 328, 353 currency risk, 328 currency swap, 469 Curry, Ann, 350 Dalai Lama 574–75 Dalio, Ray, 10, 21–24, 25, 30, 41, 84, 94, 106, 496 on active management, 165 and All Seasons/All Weather, 306, 370, 371–72, 374–92, 404, 448, 613 and asset allocation, 101, 163, 282–83, 296, 298, 299, 331, 379, 383–84, 388, 389, 412, 494 author’s interview with, 47, 448, 455, 496–97 and Bridgewater, 21, 99, 374–75, 397, 496–97 and futures contract, 374 How the Economic Machine Works, 380 and McDonald’s, 373–74 portfolio of, 23, 101, 372–73, 390–91, 437 and Pure Alpha, 375–76, 397 and Risk/Reward, 173 and volatility, 301, 321 Damon, Matt, 17 death by a thousand cuts, 109, 122 debt, 239–40, 275 decisions: financial, 295 investment, 295, 364 our lives determined by, 244, 246 defined benefit plans, 155 deflation, 329, 385, 386, 526 demographic inevitability, 285 demographic wave, 562 denial, 211 depreciation, 285–86 depression, 581–82, 594 Diamandis, Peter, 47, 551, 554–55, 564, 572 DiCaprio, Leonardo, 15 Dimensional Funds, 113, 143 Dimon, Jamie, 499 discipline, 199, 543 Disraeli, Benjamin, 248, 573 diversification, 325–26, 527–28 and asset allocation, 296, 297–300, 355, 363, 364, 378, 472–73, 482 and asset classes, 355, 363, 383, 473, 490–91 and index funds, 49, 357, 473, 483 and long-term investment, 474 and returns, 276, 282, 297 and risk/reward, 297, 300, 379, 383, 456, 472–73 and volatility, 104 Dodd, Chris, 122 Dodd-Frank Wall Street Reform and Consumer Protection Act (2009), 122–23, 135 dollar-cost averaging, 355–59, 363, 365–66, 613 dollar-weighted returns, 118–19, 121 Dow Jones Industrial Average, 101 Dream Bucket, 207, 339, 340–47, 363 asset allocation, 346, 347, 613 and community service, 342–43 filling, 343–44, 613 and gifts, 341–42 and lifestyle, 341 list your dreams, 345 state your goals, 345 strategic splurges in, 340 Dunn, Elizabeth, 589, 601 Duty Free Shopping (DFS), 72 Earhart, Amelia, 63 Earnhardt, Dale Sr., 321 earnings, and investment, 259–72 Ebates, 256 Edelen, Roger, 114 Edison, Thomas A., 19 education, 264, 265–66 teachers, 266–67 effort, 228 Egyptian Treasury bills, 319 Einhorn, David, 99 Einstein, Albert, 50, 83, 259, 292 Eisenson, Marc, 251 Elizabeth I, queen of England, 550 Elizabeth II, queen of England, 541 emergency/protection fund, 216–17, 302 emerging markets, 100, 358, 473, 527 Emerson, Ralph Waldo, 19, 59, 219 Eminem, 191 emotion, 191, 209, 210, 301, 355, 402, 582, 594 emotional mastery, 42 empowerment, 190 endowment model, 469 energy policy, 506, 509, 510–12, 556–57 Enriquez, Juan, 551, 563, 566 Enron, 133–34, 162–63 entrepreneurs: and automatic savings, 65, 69 cash-balance plan for, 155 and 401(k)s, 146–48, 152, 153, 181 environment, investment, 385–88 Epictetus, 37 equities, 322–23, 329–30, 473 Erdoes, Mary Callahan, 10, 99–100, 455, 498 on asset allocation, 296, 337, 504 author’s interview with, 100, 309, 337–38, 498–504 on leadership, 501 on long-term investment, 504 on rebalancing, 361 on structured notes, 309–10 Europe, economies in, 518–20 Evans, Richard, 114 exchange-traded funds (ETFs), 322–23 execution, 41, 65, 228, 388, 616 expectations, 334, 387 expense ratio, 108, 113 expenses, cutting, 253–56 Extrabux, 256 extracellular matrix (ECM), 568 Faber, Marc, 523–28, 523 Facebook, 270 failure to try, 271 Fama, Eugene, 98 Farrell, Charlie, 279 fate, 228–29, 343 fear: of being judged, 193 dealing with, 544–45 of failure, 183–84, 225, 301 physical effects of, 196 of the unknown, 185, 211 Federal Deposit Insurance Corporation (FDIC), 178–79, 302, 305 Federal Reserve, 354, 481, 524, 535 Fee Checker, 145, 148, 151–52, 181 Feeding America, 598, 599 Feeney, Chuck, 72–73, 595 fees, 87, 104, 236 of annuities, 168–69, 308, 434, 439 compounding, 106–9, 479 cost calculator, 111 in 401(k)s, 111, 114, 141, 142, 143–46, 148, 151–52, 181 on index funds, 112, 165, 278 of mutual funds, 105–15, 119, 121, 141, 180, 273, 278, 479 nondeductible, 112 in pensions, 86 reducing, 273–80 and risk/reward, 177, 180 in structured notes, 310 Feldstein, Martin, 385 fiduciary, 126–33 advice from, 126, 286, 319, 338, 362 brokers vs., 126–28, 137, 180 Butcher vs.

Currency Wars: The Making of the Next Gobal Crisis
by James Rickards
Published 10 Nov 2011

phase transitions, in complex system Plaza Accord, 1985 Poland Pompidou, Georges Portugal price-gold-flow mechanism price-specie-flow mechanism primary dealers private enterprise prospect theory protectionism Putin, Vladimir quantitative easing (QE) Ray, Chris Reagan, Ronald real estate bubble of 2002 to 2007 recessions, U.S. 1970s to 1980s of 2001 of 2007 See also Panic of 2008 regional currency blocs Reichsbank reichsmark rent seeking rentenmark reserve currencies risk, in complex systems risk aversion Road, The (McCarthy) Rockefeller, John D., Jr. Romer, Christina D. Roosevelt, Franklin D. Rothkopf, David Rousseff, Dilma Rubin, Robert Russia Samuels, Nathaniel Samuelson, Paul San Francisco earthquake, 1906 Sarkozy, Nicolas Schacht, Hjalmar Schiff, Jacob H.

Nudge: Improving Decisions About Health, Wealth, and Happiness
by Richard H. Thaler and Cass R. Sunstein
Published 7 Apr 2008

The more choices you give people, the more help you need to provide. As we will see, that is a lesson that the people who designed the Medicare Prescription Drug program did not learn. * * * *In fact, the percentage of active choosers has declined steadily, from 17.6 percent in 2001, the first year after the launch. *If you are worried about currency risk, that is a problem easily solved, and in fact the default fund did solve it, by hedging in the currency markets (essentially a type of insurance). †The fees we report here are the ones that were advertised. Later some funds offered discounts, so fees fell. PART III HEALTH Libertarian paternalists see countless opportunities for improving people’s health.

Work Less, Live More: The Way to Semi-Retirement
by Robert Clyatt
Published 28 Sep 2007

By sticking with a blend of 2-Year and 5-Year Average Maturity Bonds, you can capture the bulk of the yield while still ensuring reasonable protection from rising interest rates. Some investors prefer 3-Year to 6Year CDs instead of bonds in this portion of their portfolio. International Bonds Like International Stocks, 2-Year and 5-Year International Bonds give assets held in currencies other than the dollar, which adds to diversification. DFA hedges currency risk in its bond funds, which costs money and takes away this currency diversification benefit. But both PIMCO and American Century offer International Bond funds that are not hedged. 334 | Work Less, Live More In general, bonds serve to dampen volatility from equity returns but don’t add much to long-term returns.

Why Aren't They Shouting?: A Banker’s Tale of Change, Computers and Perpetual Crisis
by Kevin Rodgers
Published 13 Jul 2016

A major risk when you invest in any foreign market, but most particularly in emerging markets, is that while your investment can do well in foreign currency terms, if that currency depreciates against your own you can end up losing. You can hedge with FX products but they are costly if the market perceives a large risk and so much of the benefit of higher returns is wiped out. But if the foreign currency is pegged, as most Asian currencies were to the US dollar, then, as long as the peg holds, the currency risk disappears. Russia, the biggest of the EMEA markets, had pegged the rouble against the US dollar and so, like Asia, was beginning to see foreign investors snap up its high-yielding, short-dated rouble-denominated bonds, called GKOs. Our job was to help them do so as quickly as possible since it was widely expected – not least by the Russian government itself – that these high rates would be a temporary state of affairs and rates would fall in time.

Fault Lines: How Hidden Fractures Still Threaten the World Economy
by Raghuram Rajan
Published 24 May 2010

Other foreign investors came in through the equity markets as portfolio investors, confident that they could sell and depart at the first sign of trouble. The loans that domestic corporations took from their relationship banks were also typically denominated in foreign currency. Banks wanted to offload currency risk onto firms. The firms were willing to bear this risk because loans denominated in foreign currencies had lower interest rates, and the domestic currency had been relatively stable against foreign currencies. The problem, therefore, was that managed capitalism was not equipped to deal with a plentiful supply of arm’s-length money from outside.

The Road to Ruin: The Global Elites' Secret Plan for the Next Financial Crisis
by James Rickards
Published 15 Nov 2016

There were infinite variations on this risk-free arbitrage. Price differences arose in situations that did not involve auctions of new debt. Securities might be taxed differently, and an arbitrage might arise from the tax accounting. Differences might arise between bonds in two different currencies. Pricing adjustments would be made for the currency risk, which could be hedged in a different trade. Yet whenever some difference arose, LTCM’s computers were waiting to buy the cheap bond and short the expensive bond. Then LTCM could sit back, wait until the spread converged, and pocket a risk-free profit. LTCM would be rational whenever markets were irrational.

13 Bankers: The Wall Street Takeover and the Next Financial Meltdown
by Simon Johnson and James Kwak
Published 29 Mar 2010

In this transaction, Company A pays interest at a fixed rate to Company B and Company B pays interest at a floating rate (which can go up or down as economic conditions change) to Company A. Interest rate swaps allow companies to exchange fixed rate payments for floating rate payments, or vice versa—“swapping” interest rate risks between the two parties.‡ Similarly, currency swaps allow companies to swap currency risks by exchanging different currencies (or combinations of currencies). Interest rate swaps can also be combined with currency swaps. These two basic derivatives became popular ways for companies to manage financial or operational risks. For example, a company might have issued $100 million in bonds on which it has to pay a floating interest rate (like an adjustable rate mortgage).

How the City Really Works: The Definitive Guide to Money and Investing in London's Square Mile
by Alexander Davidson
Published 1 Apr 2008

Private investors can also invest in exchange-traded commodities (ETCs), a product recently launched on the London Stock Exchange, where the maximum loss is 100 per cent of your premium. The ETCs are open-ended asset-backed securities, offering a choice of index trackers (following an entire index of commodities with its particular balance) or individual securities. They are quoted in US dollars, which carry a currency risk for UK investors.  102 HOW THE CITY REALLY WORKS ________________________________ Let us look at the main types of commodity traded, and, for on-exchange trading, which exchanges are used. Hard commodities Hard commodities are the product of extractive processes. They include energy, and metals.

The Future of Money
by Bernard Lietaer
Published 28 Apr 2013

Derivatives Besides revolutionising banking and accelerating the movement of currencies, computers have also played another role in the foreign exchange markets: they made possible the explosive development of a whole new wave of financial products, generically called derivatives.s5z Derivatives make it possible to unbundle each piece of financial risk, and trade each one separately. Charles Sanford, exchairman of Bankers Trust and one of the pioneers of the business, described derivatives as building a 'particle theory of finance'. For example, a Japanese yen bond can be unbundled in at least three pieces of risk: a currency risk (the risk that the yen drops in value against your own currency), an interest rate risk (the risk that Japanese interest rates go up after you purchase your bond), and an issuer risk (the risk that the company issuing the bond defaults on the bond). Derivatives enable investors to select exactly which component of those risks they want to include or exclude from their portfolios.

file:///C:/Documents%20and%...
by vpavan

Expense ratios for small funds should be higher than for larger funds since the cost of running any fund is spread over the asset base, and as a fund grows, it can take advantage of economies of scale. The most expensive are the international funds, which have to charge more because of the need to hire experts who understand companies that follow non-U.S. accounting and disclosure rules, and the extra cost of managing foreign currency risk. One might assume that a fund with a higher expense ratio is a better-managed fund because it's probably paying for smarter managers and advisers than the fund with a rock-bottom ratio. Like the difference between a Hyundai and a Mercedes-Benz, you get what you pay for, right? That may be true for automobiles, but the opposite is true for mutual funds.

Nomad Capitalist: How to Reclaim Your Freedom With Offshore Bank Accounts, Dual Citizenship, Foreign Companies, and Overseas Investments
by Andrew Henderson
Published 8 Apr 2018

However, one of those same apartments was available for rent for a mere $1,700 a month. Faced with buying a property that earns a tiny 3% gross yield – what I would expect in Switzerland or some other boring, super-secure country – or being the guy to run the property into the ground while someone else assumed the currency risk and the low yield, I chose the latter. Fortunately for me, the ringgit ended up falling apart during my tenure there and my rent dipped as low as $1,200 a month for a brand new, gorgeous penthouse in the hottest part of town. The lesson I relearned from this experience is that home ownership is dramatically overrated.

Madoff Talks: Uncovering the Untold Story Behind the Most Notorious Ponzi Scheme in History
by Jim Campbell
Published 26 Apr 2021

Mitterrand, whom Madoff referred to as a “borderline Communist,” had moved to nationalize some banks and companies, and imposed strict rules prohibiting the movement of French currency out of the country, with one exception: to exchange francs for dollars to trade US stocks. The French investors asked Madoff if they could employ a strategy using a portfolio of US equities to get French francs out of the country legally, ideally hedged against both market and currency risk. According to Bernie, he put together a seemingly good match for his clients on both sides of the ocean. The deal involved a complex set of trades with correlations and dependencies, with the fully customized nature implying the trade was illiquid, meaning it might be disastrous if unwound quickly.

EuroTragedy: A Drama in Nine Acts
by Ashoka Mody
Published 7 May 2018

Eichengreen explained that the decline in transactions costs achieved through a single currency would be trivial and the dividends from reduced exchange rate uncertainty would be “quite small” (Eichengreen 1993, 1322). Just as Emminger had pointed out a decade earlier, Eichengreen said that “the existence of forward markets in foreign exchange permits traders to hedge currency risk at low cost” (1327). Subsequent studies have confirmed that when exchange rates are flexible, businesses buy insurance to protect themselves from currency movements (Patnaik and Shah 2010; Kamil 2012). In contrast to the dubious claims that a single currency would increase European prosperity, it was evident that without their own exchange rates and monetary policies, many European nations would be handicapped because they would lack crucial economic and financial shock absorbers.

…

“The Dynamic Effects of the Common Market.” In Nicholas Kaldor, Further Essays on Applied Economics. New York: Holmes and Meier. Kalyvas, Stathis. 2015. Modern Greece: What Everyone Needs to Know. New York: Oxford University Press. Kindle edition. Kamil, Herman. 2012. “How Do Exchange Rate Regimes Affect Firms’ Incentives to Hedge Currency Risk? Micro Evidence for Latin America.” IMF Working Paper 12/​69, March. Kaminska, Izabella. 2009a. “ECB Secret QE, or Not?” FT Alphaville, September 9. https://​ftalphaville.ft.com/​2009/​09/​08/​70336/​ecb-​secret-​qe-​or-​not. Kaminska, Izabella. 2009b. “The Return of Widening Sovereign Credit Spreads.”

What's Next?: Unconventional Wisdom on the Future of the World Economy
by David Hale and Lyric Hughes Hale
Published 23 May 2011

Although European, and especially German, politicians and industrialists frequently assert that their businesses are unaffected by exchange rates, such claims are implausible in an environment where inflation is almost zero in competitor economies. Additionally, European productivity has been falling as a result of labor-hoarding during the recession. The currency risks for Europe can be seen from the euro’s real trade-weighted exchange rate. Figure 5.5 shows the trade-weighted exchange rate index, calculated by the Bank for International Settlements, against the currencies of other major industrialized countries. It reveals that in the summer of 2010 the euro was as expensive as at any time in history, apart from the period immediately before and after the Lehman crisis.

Other People's Money: Masters of the Universe or Servants of the People?
by John Kay
Published 2 Sep 2015

The Eurozone – an ambitious scheme to link the currencies of France with Germany and the countries closely bound into the German economy – had grown into a political project that included Spain, Italy, Portugal and even Greece. The adoption of a common currency by these countries in 1999 (Greece followed in 2001) led to convergence of interest rates across the continent. Traders no longer discriminated between the euro liabilities of different Eurozone governments, believing that not only currency risks but also the credit risks that had once distinguished well-managed European economies from those with unstable public finances had been eliminated. Banks in Germany and France borrowed euros in the north of the continent to lend to southern Europe. By 2007 yields on Greek government bonds were barely higher than those on equivalent German bonds.

Naked Economics: Undressing the Dismal Science (Fully Revised and Updated)
by Charles Wheelan
Published 18 Apr 2010

Ford may make huge profits in Europe only to lose money in the foreign exchange markets when it tries to bring the euros back home. So far, exchange rate volatility has proven to be a drawback of floating rates, though not a fatal flaw. International companies can use the financial markets to hedge their currency risk. For example, an American firm doing business in Europe can enter into a futures contract that locks in some euro-dollar exchange rate at a specified future date—just as Southwest Airlines might lock in future fuel prices or Starbucks might use the futures market to protect against an unexpected surge in the price of coffee beans.

Money and Power: How Goldman Sachs Came to Rule the World
by William D. Cohan
Published 11 Apr 2011

Keeping in mind that the Goldman partners’ net worths were on the line with every trade, Winkelman and Rubin transformed Aron into a business that took advantage of short-term price differentials between various commodities and securities tied to them. They also decided Aron needed to become a much bigger player in foreign exchange trading, by, for instance, helping clients hedge against currency risk, and in the trading of oil and other petroleum products. “That meant taking risks that the Aron people had always been proud of not taking, and with the firm’s own money,” Rubin explained. “The firm decided to abandon the sure thing that no longer existed in favor of calculated risk taking.” For his part, Winkelman realized Aron “had to start over” and “risk our capital and work as dealers.”

…

Ira Harvard Business School, 3.1, 4.1, 4.2, 7.1, 7.2, 8.1, 8.2, 8.3, 8.4, 9.1, 14.1, 16.1, 17.1, 17.2, 17.3 Harvard Crimson, 3.1, 5.1 Harvard Law School Harvard University, prl.1, 1.1, 1.2, 1.3, 1.4, 2.1, 2.2, 2.3, 3.1, 6.1, 9.1, 10.1, 13.1, 18.1 Hasbro Hawaii, 12.1, 14.1 health care Heckscher, August hedge funds, 2.1, 14.1, 15.1, 16.1, 19.1, 20.1 see also specific hedge funds hedging against bond prices against currency risk see also “big short” Henkel, David Herrick, Darryl Hertzberg, Daniel, 11.1, 11.2, 11.3 Hess, Betty Levy Hewlett-Packard high-grade corporate bonds High-Grade Fund high-yield (junk) bonds, 2.1, 10.1, 10.2, 12.1, 15.1 Ho, Greg Hoffman-Zehner, Jacki holding company home-equity loans Homeland Security Department, U.S.

Conspiracy of Fools: A True Story
by Kurt Eichenwald
Published 14 Mar 2005

But the others approved sending Enron into a new multibillion-dollar business, using financing they wouldn’t fully understand until years later, when it helped to destroy the company. This can’t be right. Jeff McMahon, Enron’s new treasurer, pored through the Elektro paperwork again. Nothing. It wasn’t there. He called Ray Bowen, who had handled the financing. “Ray, listen, I’m looking through Elektro,” McMahon began. “Did you know we didn’t hedge the currency risk?” Hedge the currency risk. In the lingo of finance, McMahon was highlighting the critical risk of Elektro: Enron had done nothing to protect itself from a decline in the value of Brazilian currency. “Yeah, Jeff, I know,” Bowen replied. “That is absolutely the front-and-center issue on this deal.” This was nuts.

Red-Blooded Risk: The Secret History of Wall Street
by Aaron Brown and Eric Kim
Published 10 Oct 2011

It uses the money it borrows to buy goods at full value for the money, but when it sells its output it may be able to accept money at a discount and use it to repay its loan. If it sells goods for 10 percent less in gold terms than the value of the inputs it bought, but the bank’s money has depreciated 20 percent over the period of production, the company will show a profit. These features—choice of currency, risk-adjusted profits, and relative success criteria—allow for much more nuanced and effective economic signals than a precious metal economy can provide. Although governments have outlawed competition in money issuance, so there is not as much variety available as there should be, there are still different currencies in different countries.

Capitalism 4.0: The Birth of a New Economy in the Aftermath of Crisis
by Anatole Kaletsky
Published 22 Jun 2010

As a result of these generally welcome events, middle-class homeowners and small businesses were given the opportunity to manage not only their assets but also their liabilities in ways that had previously been available only to large multinationals and wealthy family trusts. Interest rate risk, currency risk, and even unemployment risk could be controlled and restructured through options, futures, and financial derivatives. In short, the availability of sophisticated financial products was democratized. As these new financial products became available, people were sensible to use them. Elderly homeowners with big houses but small incomes could supplement their pensions and enjoy life in retirement, instead of leaving all their wealth locked up in real estate until death suddenly transferred it to their kids.

Blockchain Revolution: How the Technology Behind Bitcoin Is Changing Money, Business, and the World
by Don Tapscott and Alex Tapscott
Published 9 May 2016

On Augur, anyone can post a clearly defined prediction about anything with a clear end date—from the trivial, “Will Brad Pitt and Angelina Jolie divorce?” to the vital, “Will the European Union dissolve by June 1, 2017?” The implications for the financial services industry, for investors, economic actors, and entire markets, are huge. Consider the farmer in Nicaragua or Kenya who has no robust tools to hedge against currency risk, political risk, or changes to the weather and climate. Accessing prediction markets would allow that person to mitigate the risk of drought or disaster. For example, he could buy a prediction contract that pays out if a crop yield is below a certain level, or if the country gets less than a predetermined amount of rain.

Stocks for the Long Run 5/E: the Definitive Guide to Financial Market Returns & Long-Term Investment Strategies
by Jeremy Siegel
Published 7 Jan 2014

For example, even though the British pound depreciated from $4.80 to about $1.60 over the past century, the cost of hedging this decline exceeded the depreciation in the pound. Thus the dollar returns to British stocks were higher if investors did not hedge the decline in the pound than if they did. For investors with long-term horizons, hedging currency risk in foreign stock markets may not be important. In the long run, exchange rate movements are determined primarily by differences in inflation between countries, a phenomenon called purchasing power parity. Since equities are claims on real assets, their long-term returns have compensated investors for changes in inflation and thus protected investors from exchange depreciation caused by higher inflation in the foreign countries.

Crisis Economics: A Crash Course in the Future of Finance
by Nouriel Roubini and Stephen Mihm
Published 10 May 2010

Moreover, unlike many emerging economies, the United States has never defaulted on its public debt. That goes a long way toward reassuring investors. Finally, and most important, the United States borrows from abroad in its own currency. The potential depreciation of the dollar doesn’t increase U.S. liabilities. Instead, that currency risk is transferred to foreign creditors. That’s a key difference. But it doesn’t mean foreign creditors will keep piling up hundreds of billions of low-yield government bonds forever. At some point they’re going to demand real assets—ownership stakes in American companies. So far the United States has resisted foreign ownership of its most important corporations.

Vulture Capitalism: Corporate Crimes, Backdoor Bailouts, and the Death of Freedom
by Grace Blakeley
Published 11 Mar 2024

Central banks around the world hold a significant portion of their reserves in dollars—today around 60 percent of all reserves are held in dollars, though this is down significantly from 71 percent in 2001.220 Many international transactions take place in dollars; for example, since the 1970s Saudi Arabian oil exports have been priced in dollars, creating a cycle of petrodollars in which the US purchases oil from the Saudis and the Saudis use the resulting dollars to buy weapons from US companies.221 And many non-US governments and corporations borrow in dollars because doing so insulates their lenders from currency risk. Why is the dollar still so central to the world’s financial system? Because dollars, and assets denominated in dollars like US Treasuries, are seen as some of the safest assets in the world. Until recently, few investors have worried about the ability of the US government to repay its debts, and most remain confident that the United States will do what it needs to do to ensure the proper functioning of the dollar-based international financial system.

Principles: Life and Work
by Ray Dalio
Published 18 Sep 2017

I answered that a portfolio of leveraged foreign inflation-indexed bonds with the currency hedged back to U.S. dollars should deliver exactly that. (The bonds needed to be foreign because there were no U.S. inflation-indexed bonds at the time, and they needed to be hedged to the dollar so there would be no currency risk.) Thinking about this later, I realized that we could create an entirely new and radically different asset class, so Dan Bernstein and I researched such a portfolio more closely. According to our analysis, this new asset class would perform even better than we’d thought. In fact, it would be uniquely effective because we could engineer it to have the same expected return as equities but with less risk and with a negative correlation with bonds and equities over long time frames.

After the Music Stopped: The Financial Crisis, the Response, and the Work Ahead
by Alan S. Blinder
Published 24 Jan 2013

Without any change in Fed policy, the funds rate prevailing on bank-to-bank borrowing rose from 2 percent (the Fed’s target) on September 11 to 2.8 percent on September 17. *Euro loans to supersafe countries like Germany and the Netherlands are probably just as safe—in euro. But to a dollar-based investor, they have currency risk. *The vote was 7 in favor, 3 opposed. Such a wide split is highly unusual on the consensus-bound FOMC. *In principle, the central bank could buy something other than securities—such as stocks, or even goods and services. But marketable securities are generally the only relevant choices.

The Default Line: The Inside Story of People, Banks and Entire Nations on the Edge
by Faisal Islam
Published 28 Aug 2013

At this time the German economy was depressed, mortgage demand was weak, and German banks were racing to lend somewhere to take advantage of expiring government guarantees. Where better than in the covered-bond market, itself the invention of one of the greatest Germans in history? An investment yielding a return, with no currency risk – and as safe as Spanish houses. ‘Fundamentally,’ says José Manuel Campa, ‘in aggregate it was institutional savings from Germany and the Netherlands, which, even now, still have large surpluses, channelled in two different ways: the banking sector and the financial markets.’ Effectively Germany and other creditor nations were the source of the euros that ultimately added a third to Spanish household debt.

More: The 10,000-Year Rise of the World Economy
by Philip Coggan
Published 6 Feb 2020

Although Europeans had been annoyed by the repeated currency crises of the 1970s, 1980s and 1990s, those episodes had allowed countries to adjust their economic policies by the simple expedient of devaluation. When Greek or Italian exports became uncompetitive with those of Germany, the countries could devalue and start again. Within a single currency zone, that option was gone. Furthermore, while the Europeans had eliminated currency risk, they could not get rid of risk altogether. Investors simply transferred their worries to the bond markets. Higher bond yields, by raising the cost of borrowing throughout the economy, had a more damaging effect than a small devaluation would have done. More broadly, the EU created a currency zone without a common fiscal authority or regional deposit insurance.

The Asian Financial Crisis 1995–98: Birth of the Age of Debt
by Russell Napier
Published 19 Jul 2021

In total, the three hope to raise 22bn yen to finance their investments in Thailand and shed that high-risk US dollar debt. Indeed a cunning plan. Reality is not easily digested as a credit boom comes to an end. Any number of ways will be sought to extend it. The fact that leading Thai companies thought it could be extended by simply exchanging one form of foreign currency risk for another just showed how desperate things had become. They just could not afford to borrow baht at the then high prevailing interest rates. With the consequences from the status quo of large US dollar borrowing increasingly looking like bankruptcy, doubling-up suddenly seemed like an attractive option.

In Pursuit of the Perfect Portfolio: The Stories, Voices, and Key Insights of the Pioneers Who Shaped the Way We Invest
by Andrew W. Lo and Stephen R. Foerster
Published 16 Aug 2021

Investopedia, January 27, https://www.investopedia.com/articles/financial-advisors/012716/where-does-john-c-bogle-keep-his-money.asp. “Big Money in Boston.” 1949. Fortune, December, 116–21, 189–90, 194, 196. Black, Fischer. 1989a. “How We Came Up with the Option Formula.” Journal of Portfolio Management 15, no. 2: 4–8. ________. 1989b. “Universal Hedging: Optimizing Currency Risk and Reward in International Equity Portfolios.” Financial Analysts Journal 45, no. 4: 16–22. Black, Fischer, Michael C. Jensen, and Myron Scholes. 1972. “The Capital Asset Pricing Model: Some Empirical Tests.” In Studies in the Theory of Capital Markets, ed. Michael C. Jensen, 79–121. New York: Praeger.

The Euro and the Battle of Ideas
by Markus K. Brunnermeier , Harold James and Jean-Pierre Landau
Published 3 Aug 2016

As Friedman put it, “The Mexican bailout helped fuel the East Asian crisis that erupted two years later. It encouraged individuals and financial institutions to lend to and invest in the East Asian countries, drawn by high domestic interest rates and returns on investment, and reassured about currency risk by the belief that the IMF would bail them out if the unexpected happened and the exchange pegs broke.”7 On the IMF board, the moral hazard worry was articulated most forcefully and consistently by the German representatives. It was also Germany that successfully blocked a proposal in October 1994 at the annual IMF meeting in Madrid to undertake a general issue of the IMF’s reserve currency, the special drawing right (SDR).

New Market Wizards: Conversations With America's Top Traders
by Jack D. Schwager
Published 28 Jan 1994

If such a premium did not exist, it would be possible to borrow funds in the country with lower rates, convert and invest the proceeds in the country with higher rates, and buy forward currency 38 / The New Market Wizard positions in the currency with lower interest rates to hedge against the currency risk. The participation of interest rate arbitrageurs assures that the forward premiums for the currency with lower interest rates will be exactly large enough to offset the interest rate differential between the two countries.] The way the bond issue was priced, the sterling redemption option essentially assumed no premium over the spot rate, despite the huge premium for the currency in the forward market.

Manias, Panics and Crashes: A History of Financial Crises, Sixth Edition
by Kindleberger, Charles P. and Robert Z., Aliber
Published 9 Aug 2011

Banks headquartered in Thailand, Malaysia, South Korea, and Indonesia increased the amounts borrowed in the offshore money market as their creditworthiness increased; the interest rates in the offshore market were lower than those in their domestic market, although the offshore borrowing meant that the banks were incurring a currency risk, either directly or at one remove if they on-lent to domestic borrowers in the foreign currency. When the bubbles in Thailand and Malaysia popped, their currencies depreciated sharply in the second half of 1997; there was a surge in the money flows to the United States as they repaid loans. The Federal Reserve reduced interest rates three times within several months to dampen the flow of money from the Asian countries – which contributed to the acceleration of the bubble in US stocks.

Alpha Trader
by Brent Donnelly
Published 11 May 2021

The answer is mindset, methodology, and math. This book is for traders of every skill and experience level. The kid who just opened a Robinhood account with $100 of birthday money faces many of the same challenges and psychological hurdles as the veteran portfolio manager running billions of dollars of currency risk for a London asset management firm. I have been trading, managing other traders, and mentoring for 25 years. But I still make mistakes. All the time. Plugging leaks, building on strengths, and neutralizing weaknesses is a lifelong battle. To write this book, I sifted through thousands of pages of academic research, talked to dozens of veteran traders, and dug through 25 years of my own memories and experience, all in an effort to define the ideal trader.

Extreme Money: Masters of the Universe and the Cult of Risk
by Satyajit Das
Published 14 Oct 2011

Controladora Comercial Mexicana SAB, Mexico’s third-largest supermarket operator, filed for bankruptcy after losing $1.1 billion from currency derivative deals. In Hong Kong, Citic Pacific announced a $1.9 billion loss on derivative transactions involving Australian dollars, forcing its major shareholder—China’s biggest state-owned investment company Citic Group—to provide additional capital to ensure its survival. Citic claimed it was hedging its currency risks. Henry Fan, Citic Pacific’s managing director, told the Financial Times that he was “shocked” by the events: “I asked Leslie [Leslie Chang, Citic Pacific’s group finance director] how could this happen...he said he omitted to assess the downside risk.”14 It was a lack of “horse sense,” which as humorist Raymond Nash knew is: “what keeps horses from betting on what people will do.”

Stress Test: Reflections on Financial Crises
by Timothy F. Geithner
Published 11 May 2014

This was a distinction without much of a difference: The Mexican government intervened aggressively enough that the exchange rate moved far more slowly than if it had been determined by market forces, and that left it overvalued. 2 short-term bonds called tesobonos: Tesobonos were structured so that Mexico would pay back the borrowers in however many pesos it took to produce the dollar amount of the bond. So if a dollar was worth 3 pesos, a tesobono holder owed $100 would receive 300 pesos. But if Mexico broke the peg and a dollar became worth 6 pesos, the same bondholder would receive 600 pesos. So for Mexico, borrowing in tesobonos carried some of the same currency risks as borrowing in dollars directly. 3 But it had an immediate liquidity problem: The distinction between illiquidity and insolvency is not black-and-white, and it’s hard to apply to governments, who, after all, have the ability to tax. An insolvent firm is fundamentally unable to repay its debts in the long run, while an illiquid firm doesn’t have enough cash on hand to pay its bills coming due in the near term.

The Price of Time: The Real Story of Interest
by Edward Chancellor
Published 15 Aug 2022

Loans were also stipulated for impossibly short periods with interest concealed in the heavy penalties exacted for late payment or disguised as fictional sales (‘false chevisance’).29 Northern Italian bankers concealed interest behind euphemisms: interest was hidden by such innocuous terms as yield, gain, reward, rent, profit, fee and foregone benefit.30 Discrezione signified a discretionary ‘gift’ paid by a banker on a time deposit – even Church cardinals placed their money on discrezione with bankers.31 The rentes of the Hôtel de Ville were in name only.32 The most common method of concealing interest was the overseas bill of exchange, in which interest was incorporated in a foreign exchange transaction. Bills of exchange became the mainstay of international finance from the twelfth century onwards. In principle, these bills carried credit and currency risk. But a practice developed in which bills were not attached to any genuine transaction. Known as ‘dry exchange’ (cambi secchi), because no sea was crossed, this business was said to have ‘no more juice or sap than a painted tree, either in charity or in equity, but being a griping usury under the title of exchange’.33 Datini himself concealed interest-bearing loans with the connivance of his foreign agents.

Age of Greed: The Triumph of Finance and the Decline of America, 1970 to the Present
by Jeff Madrick
Published 11 Jun 2012

This policy once again reflected the free market attitudes now ascendant in the major rich nations and international agencies like the International Monetary Fund, policies generally known as the Washington Consensus. But the capital flows reached speculative heights because interest rates offered in these nations were so high and, because their currencies were pegged to the dollar, there was no currency risk. Some $250 billion of foreign money was invested in 1996 alone, an increasing amount going into spurious real estate projects. Greenspan was in full agreement with these deregulatory policies. He and Rubin had a weekly meeting, typically breakfast, in which Rubin’s deputy, Lawrence Summers, often participated.

The Social Life of Money
by Nigel Dodd
Published 14 May 2014

Should their borrowing costs become too high, these states have little option but to raise taxes and cut public expenditure. This system leaves them in an invidious position. On one side, they are unable to run large countercyclical deficits on their own. On the other side, bond buyers can switch from one country to another within the Eurozone without exposing themselves to currency risk. This situation renders the balance of power between states and their creditors asymmetrical and points to a fundamental difference between the United States and those Eurozone member-states that have been running current account deficits. 23 This horizontal component of Wray’s approach is the theory of endogenous money: the supply of bank money (deposits) is determined within the system by the demand for loans and the willingness of banks to lend.

The Concepts and Practice of Mathematical Finance
by Mark S. Joshi
Published 24 Dec 2003

Exercise 8.12 If dX, = QdW, and X0 < L, give an expression in terms of the cumulative normal, X0, a and T for F max X, < L \ r E [o, r] 9 Multi-look exotic options 9.1 Introduction In this chapter, we look at the pricing of a derivative which depends upon the value of the underlying not just at one time but rather at several times. We concentrate on two examples, the Asian option and the discrete barrier option. To motivate the Asian option, consider a company that has regular cashflows in a foreign currency. At the end of each accounting year, it has been exposed to a certain amount of currency risk arising from fluctuations in the exchange rate. However, the company does not care about the cashflow for individual months, instead it wants to smooth the average cashflow for the year. The company therefore purchases a call option on the average of the exchange rates rather than the final one.

The Crisis of Crowding: Quant Copycats, Ugly Models, and the New Crash Normal
by Ludwig B. Chincarini
Published 29 Jul 2012

A typical economic research piece might have discussed the economies of one or more countries, offering forecasts about inflation, GDP growth, and other important economic fundamentals. A typical trade research piece might have offered ideas on how to profit from a market anomaly, such as situations in which two companies are mispriced but should converge to the same value, or discussed how to use a foreign-exchange option to hedge foreign-currency risk. These reports were supposed to help clients, but far too often investment banks use their research as a way to push products. For example, a piece that J.P. Morgan published in the late 1990s showed that clients who traded more frequently made higher profits. The argument helped Morgan generate more trades and increase trading-division profits.

The Age of Turbulence: Adventures in a New World (Hardback) - Common
by Alan Greenspan
Published 14 Jun 2007

Prices of identical goods at nearby locations, but across borders, for example, have been shown to differ significantly even when denominated in the same currency* Thus, cross-border current account imbalances may impart a degree of economic stress that is likely greater than that stemming from domestic imbalances only. Cross-border legal and currency risks are important additions to normal domestic risks. But how significant are the differences? Globalization is changing many of our economic guideposts. It is probably reasonable to assume that the worldwide dispersion of the financial balances of unconsolidated economic entities as a ratio to world nominal GDP noted earlier will continue to rise as increasing specialization and the division of labor spread globally.

Crashed: How a Decade of Financial Crises Changed the World
by Adam Tooze
Published 31 Jul 2018

But the global credit expansion of the early 2000s put anything hitherto experienced in the shade, and Europe’s banks were at the leading edge of the boom. French, German, Italian, Benelux, Spanish, Irish and British banks poured credit into profitable hot spots of growth. The eurozone allowed them to do so without regard to borders or currency risk. Cross-border lending within the eurozone exploded, rising even more rapidly than cross-border finance globally.36 Europe’s bankers used the same array of modern banking techniques in the eurozone that they were putting to such profitable use in London and New York. Securitization had long been a method of mortgage finance in Europe.