Not only can hedging mitigate risks to the financial intermediary, but if done correctly, it is...

Not only can hedging mitigate risks to the financial intermediary, but if done correctly, it is costless.

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Expert Solution

Answer :- Yes, The statement given in question is very true.

Explanation :- Hedging minimizes / mitigates the risks. An example of hedging strategy namely Zero cost collar not only minimizes risk but also (as by its name suggests) involves not cost. Zero cost collar allows you to purchase options (call / put) at a price which is within a particular range only. Other hedging strategy (involving no cost if exercised effectively and efficiently) are as follows :-

1). Money market hedge :- A money market hedge involves simultaneous borrowing and lending activities in two different currencies to lock in the home currency value of a future foreign currency cash flow. The simultaneous borrowing and lending activities enable a company to create a home made forward contract.

2). Forward market hedge :- In a forward market hedge, a company that has a long position in a foreign currency will sell the foreign currency forward, whereas a company that has a short position in a foreign currency will buy the foreign currency forward. In this manner, the company can fix the dollar value of future foreign currency cash flow without incurring any significant costs.

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