Question

What are the conditions under which exchange rate changes could actually reduce the risk of foreign investment for the company?

Answer 1

When a company or individual from one nation invests in assets or ownership stakes of a company in another nation, this is called foreign investment. Investing in foreign countries may seem like a huge benefit but it also involves a huge risk. Exchange rate fluctuation is one of the main risk involved in foreign investment.

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However, if foreign investment is made under following conditions, the exchange rate fluctuation can reduce the risk of foreign investment.

a) Choose a country having strong economical record with strong rising currencies.

b) Choose wisely between bonds and equity to invest because bonds have relatively less returns than equity. Hence while choosing bond, be sure that its return will cover the loss of currency fluctuation.

c) Invest in mutual funds or exchange-traded funds that are hedged, the funds which use futures and options to hedge the currency risk of a bond or equity and reduce losses.

d) Diversify your foreign investment across various geographic regions.

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Hence under the above cited conditions, exchange rate changes can reduce the risk of foreign investment for the company.

Moreover investors need to regularly pay attention to currency fluctuations around the world, political and economical stability of a nation and accordingly relocate their investment from time to time.