A hybrid operational technique for hedging transaction exposure to foreign exchange risk

A hybrid operational hedging technique is proposed to shift some of the foreign exchange risk from the importer to the exporter when the currency of invoicing is the base currency of the exporter. This requires the conversion of the cash flows at a range of exchange rates calculated as some weighted average of the rates used under a risk sharing arrangement and a currency collar. The problem of choosing the value of the parameter that determines how much of the risk is to be shifted to the exporter can be resolved by fine tuning the weights in such a way as to eliminate the sensitivity of the cash flows to the value of this parameter. The theoretical results are demonstrated with the use of monthly data on the exchange rate between the Canadian dollar and the U.S. dollar over the period January 1990-September 2003.