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Chap. 1: Introduction: Multinational Enterprise and Multinational Financial
Management
Terms
- multinational corporation
- absolute advantage
- comparative advantage
- internationalization
- foreign direct investment: the acquisition abroad of companies, property,
or physical assets such as plant and equipment
- reverse foreign investment
- global manager
- arbitrage
- market efficiency
- capital asset pricing model
- systematic or undiversifiable risk
- unsystematic or diversifiable risk
- terms of trade
Short Questions
- What is the meaning of absolute advantage? Explain.
- What is the meaning of comparative advantage? Explain.
- Explain the Hecksher-Ohlin Theory of Factor Proportions.
- Explain Porter's theory of national competitive advantage.
- Explain the product cycle theory of trade.
- How might countries creative competitive advantages?
Chap. 2: The Determination of Exchange Rates
Terms
- exchange rate
- devaluation
- pegged currency
- revaluation
- floating currency
- equilibrium exchange rate
- spot rate
- forward rate
- reference currency
- appreciation
- depreciation
- bid rate: the price in one currency at which a dealer will buy another
currency
- ask rate: the price in one currency at which a dealer will sell another
currency
- nominal interest rate
- real interest rate
- asset market model of exchange rate determination
- moral hazard
- liquidity
- store of value
- central bank
- fiat money: a system where the currency that is legal tender is not
back by commodities or other reserve currencies, but simply by the peoples'
faith in the government.
- monetizing the deficit
- currency board: a system where the central bank issues notes and coins
that are convertible on demand and at a fixed rate into a foreign reserve
currency.
- dollarization
- seigniorage: The amount of goods and services that the government
obtains by printing new money in a given period.
- real exchange rate
- nominal exchange rate
- foreign exchange market intervention: offical purchases and sales
of foreign exchange that national undertake through their central banks
to influence their currencies.
- sterilized intervention: intervention by central banks to affect the
exchange rate, accompanied by open-market operations domestically to
offset the impact of the currency market intervention on domestic money
supply.
- monetary base
- open-market operation
Short Questions
- What are the primary factors that affect the determination of exchange
rates?
- Explain how relative inflation rates in the two countries influence
the determination of the exchange rate.
- Explain how relative economic growth rates in the two countries influence
the determination of the exchange rate.
- Explain how relative real interest rates in the two countries influence
the determination of the exchange rate.
- Explain how relative political and economic risks in the two countries
influence the determination of the exchange rate.
- Explain the Asset Market Model of Exchange Rates.
- What are the primary functions of money? How are do these functions
explain the exchange rate?
- Why is it important that a country's central bank be independent in
maintaining that country's currency value?
- Explain how dollarization and currency boards can be used to offset
the weak reputation of a country's central bank in maintaining currency
strength.
- How does dollarization affect seignorage?
- Why do countries intervene in foreign exchange markets?
- What is the difference between sterilized and unsterilized intervention?
- How does the disequilibrium theory of exchange rates explain the overshooting
phenomenon?
Formulas and Computational Issues
- Computatation of Currency Appreciation and Depreciation.
Chap. 3: The International Monetary System
Terms
- international monetary system:
the set of policies, institutions, practices, regulations, and mechanisms
that determine the rate at which one currency is exchanged for another.
- free float
- managed float
- dirty float: A system of floating exchange rates in which a government
may intervene to change the direction of the value of the country's
currency; this differs from a managed float policy, in that it may not
be the explicit and avowed policy of the government to intervene to
affect currency rates.
- fixed-rate system
- target-zone arrangement: a monetary system under which countries pledge
to maintain theeir exchange rates within a specific margin around agreed-upon,
fixed central exchange rates.
- par value
- austerity
- gold standard
- price-specie-flow mechanism
- beggar-thy-neighbor devaluation: devaluation of its currency by one
country to increase its exports at others' expense and to reduce imports
-- often leads to a price war.
- International Monetary Fund
- International Bank for Reconstruction and Development (World Bank)
- lender of last resort
- Bank of International Settlements: central bank for the industrial
countries' central banks; helps central banks manage and invest their
foreign exchange reserves, and in cooperation with the IMF and the World
Bank, helps the central banks of developing countries. It also holds
deposits of central banks.
- Bretton Woods Agreement
- Smithsonian Agreement
- G-5 nations
- Plaza Agreement
- G-7 nations
- Louvre Accord
- European Monetary System (EMS)
- European Community (EC) or Common Market
- European Currency Unit (ECU)
- monetary union
- European Central Bank
- privatization: selling off state-owned enterprises.
- optimum currency area: largest area in which it makes sense to have
a single currency. Defined as that area for which the cost of having
an additional currency -- higher costs of doing business and greater
currency risk -- just balances the benefits of another currency -- reduced
vulnerability to economic shocks associated with the option to change
the area's exchange rate.
- conditionality
Short Questions
- What are the different exchange-rate market mechanisms?
- How does a free float market work?
- How does managed floating work?
- What are the objectives of a managed float?
- How does a target-zone arrangement work?
- How does a fixed-rate system work?
- How did the classical gold standard system work in maintaining equilbrium?
- How does a currency area work?
- Compare and contrast the US as a currency area with the European Union.
- Why, do you think, has real exchange rate volatility increased with
free currency markets, rather than decreasing, as was expected?
Chap. 4: Parity Conditions in International Finance and Currency Forecasting
Terms
- Fisher Effect
- International Fisher Effect
- Purchasing Power Parity
- interest rate parity
- covered interest arbitrage
- unbiased forward rate
- peso problem
Short Questions
- Why would you expect the forward rate to be an unbiased expectation
of the future spot rate?
Formulas and Computational Issues
- Computing one element from a string of elements related through a
parity condition
e.g. computing a forward rate based on knowledge of the spot exchange
rate and the riskfree rates in the two countries.
Chap. 7: The Foreign Exchange Market
Terms
- interbank market
- spot market
- forward market
- foreign exchange brokers
- arbitrageurs
- traders
- SWIFT: An acronym that stands for "Society for Worldwide Interbank
Financial Telecommunications." This is a
dedicated computer network to support funds transfer messages internationally
between member banks world-wide. Among other things, it is used to transfer
funds between member banks.
- CHIPS
- Fedwire
- hedgers
- speculators
- American terms
- European terms
- direct quotation
- Indirect quotation
- bid-ask spread
- cross rates
- triangular currency arbitrage
- no-arbitrage condition
- settlement risk/ Herstatt risk: a type of credit risk that a bank
will deliver currency on one side of a foreign exchange deal only to
find that its counterparty has not sent any money in return.
- nostro account: working balances maintained with the correspondent
to facilitate delivery and receipt of currencies.
- position sheet: a document that shows a bank's position by currency,
as well as maturities of forward contracts.
- short position
- long position
- outright rate
- swap rate: The difference between spot and forward rates expressed
in points, e.g., $0.0001 per pound sterling (Source: Campbell Harvey
http://www.duke.edu/~charvey/Classes/wpg/bfgloss.htm).
- forward discount
- forward premium
- value date: the date on which monies must be paid to the parties involved,
often the second wokring day after the date on which the transaction
is concluded.
Short Questions
- Why does settlement risk exist? Could you avoid settlement risk?
- Explain the credit risk and liquidity risk components of settlement
risk?
- Why do you need to have pre-funding in CHIPS?
- Why do you need the Fedwire system in addition to CHIPS?
Formulas and Computational Issues
- Computation of cross-rates
- Existence of arbitrage and computation of arbitrage profits
- Hedging with forwards
- Forward market quoting
Chap. 9: Swaps and Interest Rate Derivatives
Terms
- interest rate swap
- notional principal: a reference amount against which the interest
on a swap is calculated.
- coupon swap
- basis swap
- LIBOR
- eurocurrency: a currency deposited in a bank outside the country of
its origin
- Eurobond
- currency swap
- all-in cost
- right of offset
- dual currency bond
- forward forward
- forward rate agreement
Short Questions
- How does a basis swap differ from a currency swap?
- The spread between the floating rates available to two parties is
not the same as the spread between the fixed rates available to two
parties. Is there a definite possibility of an interest rate swap?
- Why is a currency swap equivalent to a package of forward contracts?
- Why do you need right-of-offset in a currency swap or an interest
rate swap?
- Why do you need a swap of principals in a currency rate swap, but
not in an interest swap?
- How can a principal engage in a swap if there are no other principals
willing/needing to take the opposite position?
- Why do swaps occur? Why is it not possible for the parties involved
to simply go directly to the market to obtain the financing that they
need?
- What is the difference between a forward forward and a forward rate
agreement?
- What is the difference between a forward rate agreement and a futures
contract?
- What is an inverse floater? Why might a hedger (i.e. a non-speculator)
be interested in such an instrument?
- What is a step-down note? What is its function?
- "In order for one party to a swap to benefit, the other party
must lose." Is this a true statement? Why or why not?
Formulas and Computational Issues
- Eurodollar futures pricing
- Structuring of currency swaps
- Structuring of interest rate swaps
Chap. 10: Measuring and Managing Translation and Transaction Exposure
Terms
- accounting exposure
- balance-sheet exposure
- cross-hedge
- currency call option
- currency collar
- currency put option
- currency risk sharing
- current rate method
- current/noncurrent method
- cylinder
- economic exposure
- exposure netting
- Financial Accounting Standards Board
- foreign exchange risk
- forward market hedge
- functional currency
- funds adjustment
- hard currency hedging
- historical exchange rate
- hyperinflationary country
- monetary/nonmonetary method
- money market hedge
- neutral zone
- operating exposure
- opportunity cost
- price adjustment clauses
- range forward
- reporting currency
- risk shifting
- soft currency
- FASB 8
- FASB 52
- temporal method
- transaction exposure
Short Questions
- When are options better than forwards/futures for hedging purposes?
- What is translation exposure?
- What is transaction exposure?
- What are the basic translation methods? How do they differ?
- What factors affect a company's translation exposure? What can the
company do to affect its detree of translation exposure?
- What alternative hedging transactions are available to a company seeking
to hedge the translation exposure of its German subsidiary? How would
the appropriate hedge change if the German affiliate's functional currency
were the US dollar?
- In order to eliminate all risk on its exports to Japan, a company
decides to hedge both its actual and anticipated sales there. To what
risk is the company exposing itself? How could this risk be managed?
- Argue the position that hedging exchange rate exposure does not
increase the value of the firm.
- Argue the position that hedging exchange rate exposure does
increase the value of the firm.
- What is the difference between translation exposure and transaction
exposure?
- Unfavorable exchange rate movements can reduce the value of the firm
by weakening its competitive position in a given market. Exposure to
such exchange rate movements would normally be classified as operating
exposure. However, this would also affect the firm's balance sheet;
this would normally come under the purview of translation exposure.
Explain the difference.
- What is the justification for the current/noncurrent method of currency
translation?
- What is the underlying assumption of the monetary/nonmonetary method
of currency translation?
- Under the current/current method, income statement items are usually
translated at the average exchange rate prevailing during the period,
while balance sheet items are translated at the end-of-period exchange
rate. Why is there such a difference?
- Why did FASB 8 lead to volatility in reported earnings?
- How did FASB 52 try to fix this?
- What determines a firm's functional currency?
- What are some direct funds-adjustment methods? How do they work?
- What are some indirect funds-adjustment methods? How do they work?
- How would you measure translation exposure?
- How would you measure transactions exposure?
- "Forward market hedges and money market hedges perform the same
function. There is no reason to prefer one over the other." Evaluate
this statement.
- Explain exposure netting.
- Why might a company choose currency risk sharing over forward hedging?
- When is cross-hedging necessary?
- When would currency options make more sense than forward contracts?
Formulas and Computational Issues
Chap. 11: Measuring and Managing Economic Exposure
Terms
- competitive exposure
- currency of denomination
- currency of determination
- differentiated products
- economic exposure
- flow-back effect
- market selection
- outsourcing: strategy of purchasing intermediate components from independent
suppliers. This gives the firm flexiblity in shifting purchases of intermediate
inputs towards suppliers who are least affected by a given exchange
rate change.
- price elasticity of demand
- pricing flexibility
- pricing strategy
- product cycles
- product innovation
- production shifting: a strategy that allows the firm to vary its production
mix over plants in different parts of the world; this can be used as
a means of hedging against exchange rate risk.
- product sourcing: this refers to the sources that a firm uses to obtain
its inputs
- product strategy: this deals with the firm's decisions such as new-product
introduction, product line decisions, and timing and nature of product
innovation.
- real exchange rate
- transaction exposure
Short Questions
- If PPP holds, and relative prices in both the home country and in
the foreign country remain unchanged, can a firm have economic exposure
to exchange rate risk?
- If PPP holds, and relative prices in both the home country and in
the foreign country remain unchanged, can a firm have transactions exposure
to exchange rate risk?
- What will be the impact on the stock price of an exporting firm if
the local currency depreciates relative to the currencies of the countries
that the firm exports to?
- What is the role of finance in protecting against exchange risk?
- A U.S. company needs to borrow $100 million for a period of seven
years. It can issue dollar debt at 7% or yen debt at 3%.
- Suppose the company is a multinational firm with sales in the
US and inputs purchased in Japan. How should this affect its financing
choice?
- Suppose the company is a multinational firm with sales in Japan
and inputs that are determined primarily in dollars. How should
this affect its financing choice?
- Suppose a substantial part of a firm's inputs are imported. If the
firm has flexibility in where to import from, how will this affect its
exchange rate exposure?
- If a US firm has a monopoly in a foreign country, how will this affect
its exposure to the exchange rate risk of the dollar vis-a-vis that
country's currency?
- If that US firm has to compete in the foreign country with a lot of
other non-US competitors, how will this affect its exposure to the exchange
rate risk of the dollar vis-a-vis that country's currency?
- Are commodity exporters subject to greater exchange rate risk than
exporters of branded, specialized goods? Why or why not?
- If a firm has no transactions in foreign currency, if it does not
import any foreign goods and it does not export any of its goods to
foreign countries, can it have economic exposure to currency risk? Explain.
Chap. 12: International Financing and National Capital Markets
Terms
- investment banker
- underwriting
- private placements
- covenants
- securitization
- financial intermediaries
- corporate governance: the means whereby companies are controlled (expand..)
- keiretsu
- universal banking
- regulatory arbitrage
- capital productivity
- entrepots
- shogun bonds
- samurai bonds
- yankee bonds
- yankee stocks
- global bond
- equity-related bonds
- equity warrants
- convertible bonds
- foreign bank market: the portion of domestic bank loans supplied to
foreigners for use abroad
- Rule 144A
- global shares
- development banks: banks, whose lending is directed to investments
that might not otherwise be funded by private capital
- Inter-American Development Bank (IADB)
- European Bank for Reconstruction and Development (EBRD)
- project finance
Short Questions
- What are some institutional factors that promote well-functioning
capital markets?
Chap. 13: The Euromarkets
Terms
- eurocurrency
- eurobank
- eurodollar
- eurobonds
- euronotes
- LIBOR
- LIBID
- basis point
- drawdown
- purchase fund
- sinking fund
- note issuance facility (NIF): a substitute for syndicated credits,
which allows borrowers to issue their own short-term Euronotes, which
are placed or distributed by the financial institutions providing the
NIF.
- Short-term note issuance facility (SNIF)
- revolving underwriting facility (RUF)
- Euro-MTNs
- Euro-CP
- Asiacurrency
- dragon bond
Short Questions
- What is the difference between a Eurocurrency loan and a Eurobond?
- What is the difference between a foreign bond and a Eurobond?
- What is the basic reason for the existence of the Eurodllar market?
What factors have accounted for its growth over time?
- Why have Eurobonds traditionally yielded less than comparable domestic
issues?
- What factors account for the growth of note issuance facilities?
- In what sense is the NIF part of the process of securitization?
- Why is the NIF described as a put option?
Chap. 14: The Cost of Capital For Foreign Investments
Terms
- CAPM
- systematic/ nondiversifiable risk
- market risk premium
- project beta
- weighted average cost of capital
- target capital structure
- corporate international diversification
- global capital asset model
- home bias
- sovereign risk premium
Short Questions
- Why might the beta risk for investments in developing countries be
less than the beta risk for investments in developed countries?
- Why might it be important to add country risk premiums in computing
the cost of capital for projects in foreign countries, especially emerging
economies?
- What are some of the advantages and disadvantages of having highly
leveraged foreign subsidiaries?
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