Question

Compare Porsche’s exchange risk hedging strategy to that of BMW’s hedging strategy? Clearly explain the advantages and disadvantages of each strategy.

Answer 1

Porsche’s exchange risk hedging strategy: Porsche's hedging strategy is different from BMW's strategy because Porsche's use options contracts to hedge foreign currency exposure, the management hedge this exposure by buying contracts of both put and call options.

They uses money market options so that they can make use of lock-in of spot prices for future exposure. Future and Forwards are the best example of the hedging of Foreign Exchange rate risk in times of uncertain sales.

Advantages:

• It saves time as trader is not required to daily adjust its position.
• It can be used for locking of profit.
• Hedging using options gives flexibility to use complex options strategy to maximize the profit.

Disadvantages:

• Cost of hedging is high sometimes and it can eatup the profits also.
• Risk and rewards are proportional hence in order to reduce risk it also reduces profits.
• Hedging using options and futures requires high capital and balances.

BMW’s hedging strategy: BMW uses natural hedging strategy, it is a strategy where management invests in assets whose performance is negatively correlated. This strategy is less complex hence it is less risky, less costly and hence less time intensive to implement.

BMW moved production strategy to the countries where the sales are high so that the production strategy can b utilized at its full level.

Advantages:

• It is less risky.
• Less complex.
• It is less costly than other strategies.

Disadvantages:

• Shifting production facility can consume more time than hedging the currency exposure.
• It requires good amount of analysis and decision taking ability.