Operating Foreign Exchange Risk and How it is Connected?

Operational risk is mainly related to commercial operations, as well as financial transactions on financial investment and dividend (interest) payments. Exposed to operational risk as cash flows and profit margins.

This risk can be defined as the ability to receive less profits or incur losses as a result of direct effects of exchange rate changes on the expected cash flows. Exporter receives foreign currency for the goods sold, will lose from the reduction of foreign exchange in relation to national, while the importer to pay with foreign currency, will lose from higher foreign currency exchange rate in relation to the national.

The uncertainty of the value of exports in local currency, if the invoice is issued to him in foreign currency, may restrain exports because doubt that the exported goods in the long run it will be possible to realize a profit. The uncertainty of the value of imports in domestic currency, the price of which is set in a foreign currency, increasing the risk of losses from imports, as in terms of domestic currency price may be non-competitive. Thus, the uncertainty of the exchange rate may impede international trade.

Importers who receive invoices in foreign currency, are also faced with the uncertainty in estimating the value of imports in domestic currency. For them, it becomes especially problematic in the case of the sensitivity of sales to price changes, when, for example, their competitors are domestic producers who are not experiencing the impact of changes in exchange rates, or importers, receive invoices in foreign currency exchange rate which varies in a favorable direction.

The risks associated with transactions, suggesting the exchange rate can be controlled through pricing policies, including the definition of a designated level of prices and the currencies in which the price is expressed. It is also a significant effect on the risk may have a time of receipt or payment of money.

Operational risk can be reduced if the currency (or currencies) of income corresponds to the currency (currencies) costs. The simplest example is the exporter, the costs of which are expressed in national currency and who is trying to avoid the risk by writing invoices in this currency. Difficulties with this approach, linked with a possible buyer wish to receive an invoice in the currency of their country, and if the exporter refuses to issue invoices in the importer's currency, the transaction may not take place. It is dangerous to write or receive invoices in currencies for which there is no reliable way to hedge. In particular, if it is impossible or too expensive to enter into a forward contract, then in that case (if there is no possibility of the above monetary neutralization) of the company is better not to issue invoices in this currency.
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