Question

1-Why logic behind investing in international share funds as against only investing in domestic stocks.

2- why firms to hedge their exposure and why is it important.

3- what is index funds and its advantage

（1500 words)

Answer 1

1) International share funds are the funds which are available outside the domestic country o the investors. Investing in these funds provide a very good diversification benefit to the investors. Because of segmentation and different kind of markets, the international share funds are not perfectly correlated with the investor's domestic market. This means that in times of crisis and political turmoil in the domestic market, these funds are not affected and the investor's portfolio performs better than what it would have been if she had invested in domestic market only

2) Risk can be of any form:- Market risk, liquidity risk, credit risk, currency risk, commodity risk, etc. It is very important to for firms to minimize their risk. For an airline company based in Indonesia, for example, it is a practice to hedge the commodity as well as currency risk. Commodity in their case would be jet fuel. This is done so as to minimize the risk of market and prices going against it. If the crude prices are expected to go up in the near future the airline company would hedge this risk by buying crude futures. This gives the organization to fix its price without any volatility and adverse effects and it also helps them to forecast their cash flows in a very efficient and effective manner.

3) Index funds are the type of funds which are created for the sole purpose of replicating a particular index's return, for example, S&P 500. Generally, they take the form of mutual funds. This can be done by constructing a portfolio whose components and weights are similar to the index itself. This means the fund will perform in tandem with the index it is tracking. These funds are not meant to outperform the market, but only mimic the performance of the index, which means it is passive strategy which leaves less room for active returns. There are many advantages of index funds:-

- Due to replicating the index itself which constitutes a broad range of securities, they provide a broad market exposure

- The expense for managing the fund is low

- The portfolio turnover is also low