Aug 21

Foreign Currency Risk: Off-balance sheet hedge - 8 min screencast

by David Harper, CFA, FRM, CIPM

Using Saunders’ example of a U.S. bank funded with dollar denominated liabilities, that invests abroad by making pound sterling loans, I previously reviewed:

Un-hedged foreign currency exposure: if pound sterling depreciates vis-a-vis dollar, bank’s returns are eroded by foreign currency
On-balance sheet hedge: bank instead matches by funding partially with pound sterling liabilities, so if foreign currency depreciates, the net return on the loan asset remains reduced but the cost of funding is similarly reduced.
Here is the off-balance sheet scenario: the bank sells the pound sterlings forward

Screencast: