Currency risk - Return

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Из курса от партнера University of Geneva

Portfolio and Risk Management

875 оценки

University of Geneva

Portfolio and Risk Management

875 оценки

Курс 3 из 5 — Specialization Investment Management

In this course, you will gain an understanding of the theory underlying optimal portfolio construction, the different ways portfolios are actually built in practice and how to measure and manage the risk of such portfolios. You will start by studying how imperfect correlation between assets leads to diversified and optimal portfolios as well as the consequences in terms of asset pricing. Then, you will learn how to shape an investor's profile and build an adequate portfolio by combining strategic and tactical asset allocations. Finally, you will have a more in-depth look at risk: its different facets and the appropriate tools and techniques to measure it, manage it and hedge it. Key speakers from UBS, our corporate partner, will regularly add a practical perspective on these different topics as you progress through the course.

Из урока

Risk Management

This fourth and final week is dedicated to risk. We will start by looking in more depth at different sources of risk such as illiquidity and currency risk but also at the different tools available to investors to perform risk management. But how should we measure risk? We will see that it may be valuable to go a step beyond standard deviation, the risk measure we used so far, and look at the Value-at-Risk and Expected Shortfall which focus on potential large losses. Finally, we will use the financial instruments at our disposal to hedge market and currency risk.

Defining forwards and options - Forwards10:08

Defining forwards and options - Options11:44

Risk as volatility?4:21

What about illiquidity? - UBS guest speaker2:56

Currency risk - Return7:35

Currency risk - Risk6:11

Познакомьтесь с преподавателями

University of Geneva- Tony Berrada
SFI Associate Professor of Finance
Geneva Finance Research Institute
University of Geneva- Ines Chaieb
SFI Associate Professor of Finance
Geneva Finance Research Institute
University of Geneva- Jonas Demaurex
Teaching Assistant
Geneva Finance Research Institute
University of Geneva- Rajna Gibson Brandon
SFI Senior Chaired Professor of Finance and Managing Director of the GFRI
Geneva Finance Research Institute
University of Geneva- Michel Girardin
Lecturer in Macro-Finance - Project Leader for the "Investment Management" specialization
Geneva Finance Research Institute
University of Geneva- Philipp Krueger
SFI Assistant Professor of Finance
Geneva Finance Research Institute
University of Geneva- Kerstin Preuschoff
Associate Professor of Neurofinance and Neuroeconomics
Geneva Finance Research Institute
University of Geneva- Olivier Scaillet
SFI Senior Chaired Professor of Finance and Vice-dean (research) at GSEM
Geneva Finance Research Institute

[MUSIC]

Hello, I'm Ines and today we're going to talk about Currency Risk.

Whenever you go and invest globally, you face all the currencies.

So, it is important to understand what is the contribution of fluctuation and

exchange rate to the return and risk of your portfolio.

Before starting, bear with me, we need to introduce some mutation that is going

to be useful for the rest of this presentation.

I denote by PFCt for the value of a foreign

investment measured in foreign currency.

So, the superscript FC is for the currency and

the subscript t is from the time t.

So, that's the value of my portfolio measured in foreign currency at time t.

To make things easy, I'll assume that the domestic currency is the dollar.

Okay? So, we take the perspective of a US

investor and we measure everything in dollars.

We define the spot rate by St, and

that's the dollar value of one unit of foreign currency.

How much it cost me to buy one unit of foreign currency.

So if you see that the spot rate increases,

it means that the foreign currency appreciated vis-a-vis the dollar.

And then I can define the dollar price of the foreign investment.

I denote it by P$t.

Again, the superscript is for the currency now denominated

in dollars and the subscript is for the time "t".

So, that's the dollar value of the foreign investment.

And is simply the foreign currency value multiplied by the spot rate.

And then I can define the return on my foreign investment.

And that's the capitol gain or loss which is the price at

20 in foreign currency minus the price times zero.

When I part the stock for the portfolio, divided by this original price P0 and

that gives me the return in foreign currency, FC.

I can also compute the return of this foreign investment in dollar terms.

So, now I'm computing the capital gain or loss in dollar terms.

That's the dollar price time t minus the dollar price at time 0

divided by the original price of the dollar price at time 0.

And finally, I define the percentage change in exchange

rate by denoted by s, so that the st minus s0 divided by s0.

Now, let's see what is the relationship between

the dollar return and the foreign return, so

that I can see the contribution of exchange rate changes.

Remember that dollar return is what?

Is simply the dollar value at time t minus the dollar value at time 0

divided by the dollar value at time 0.

But the dollar value simply the foreign currency value times the exchange rate,

that's what I'm substituting here in this equation that you see in front of you.

And then I can manipulate a little bit this equation to get to the following.

The dollar return is the foreign currency return plus

the change in exchange rate plus this cross product term,

the exchange rate changes, multiplied by the foreign currency return.

Why does cross product term?

Simply because the change exchange rate is not only applied on the original price,

but also on the capital gain or loss.

So, from here we can compute the currency contribution

to the return of this foreign investment.

And that's simply, the dollar return minus the foreign currency return,

which we can write as the change and exchange rate plus this

cross product term ES times the foreign currency return.

So, let's now take an example.

On February 2015, Maria an American investor bought

a portfolio of Brazilian stocks that worth 1000 Brazilian Real.

And the exchange rate at the time was at $0.3 per Real.

One year later, she sold that 1,200 and

exchange rate drop at 0.25.

So, what is the dollar return of her portfolio?

And what's the currency contribution to this return?

You see it here from the table, let's first compute the foreign currency return.

So, she bought at 1,000, that's February 2015, let's call it time 0.

And one year later, period 1, he sold that 1,200.

So, the return is simply 1,200 minus the 1,000,

that's 200 capital gain divided by the original

price of 1,000 so that's 20% return.

Now, in dollar terms,

we need first to convert each of these prices in dollar terms.

So at time 0, that's the 1000x0.3 dollar

per Real exchange rate at the time, and that gives us $300.

At time 1, is the 1, 200 times the exchange rate a year

later which was at 0.25 but that gives us again $300.

So her return in dollar terms is what?

Is 0%.

She made 20% Because of the appreciation of

the Brazilian market, but she lost all of this gain

because of the exchange rate that moved against her.

So, the brial depreciated against the dollar.

The percentage exchange rate was 16.67, so that's the 0.25

minus the 0.3 divided by 0.3, so that's -16.67%.

So, what is the currency contribution?

Take simply the dollar return minus the foreign currency return,

so here it's the 0% minus the 20%, that's -20%.

Why it's not just equal to this changing exchange rate of 16.67%?

Remember, you need also to take into account the cross product.

So, if you take the 16.67% x 20%,

that's around 3.3% add it to the 16.67,

that gives you the total 20% less.

[MUSIC]

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