Mind Map Gallery Currency Strategies
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Currency Strategies
A comprehensive mind map about Currency Strategies. From CFA Level 3 - Derivatives and Currency Management. Created by ontheroad. You can easily create your own mind map with EdrawMind.
Edited at 2022-02-09 01:17:05
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Currency Strategies
Strategic Decisions
选择hedge或不hedge的原因 (适用PM)
不进行currency management的原因
in the long run currency effects cancel out to zero (mean revert)
link movements in exchange rates, interest rates and inflation rate hold in long-run
an efficient currency market is a zero-sum game
cost will decrease return
适合哪些投资者:very long investment horizon and few immediate liquidity needs
进行currency management的原因
inefficient currency markets and movements could have a dramatic impact on short-term return
适用投资者特点
short term
risk averse
have immediate income or liquidity needs
hedging is cheap
financial markets are volatile
IPS - currency risk management risk policy
target proportion of currency exposure to be passively hedged
latitude for active currency management
frequency of hedge rebalancing
currency hedge performance benchmark
hedging tools permitted
确定optimal weights
portfolio optimization over fully hedged returns
optimize the expected foreign-currency asset risk-return trade-off
selection of active currency exposures
考虑因素
diversification: depend on foreign-currency asset composition
negative correlation
both bonds and currency react strongly to interest rate,little benefit for fixed income portfolios,更需要hedge
global equity portfolio相对不需要hedge
investors
non-US investors: under hedge (<100%)
currencies like USD can act as a safe haven and appreciate in times of market stress
US investors: fully hedge
cost
trading cost
bid-ask spread
currency options: requires the payment of up-front premiums
forward: roll down forward with FX swap, which generate cash inflow or outflow
administrative infrastructure cost and overhead cost
opportunity cost
Strategies
Passive Hedging: keep the portfolio's currency exposures close those of a benchmark portfolio
is a rules-based approach
minimize tracking errors
need periodic rebalancing
Discretionary Hedging
has some limited discretion (percentage of foreign-currency market value) to vary from the neutral position
Active Currency Management (an extension of discretionary hedging)
和完全active比较
no allowance for unlimited speculation
risk management system
和discretionary比较
discretionary的主要目的是protect the portfolio from currency risk;其次是enhance overall portfolio returns
active management的主要目的是take currency risks and manage them for profit (add alpha)
Currency Overlay
一般需要external managers
和 take foreign exchange as an asset class的区别
currency overlay is limited to the currency exposures already in the foreign asset portfolio
foreign currency as asset class is free to take exposures in any currency pair
hedging & alpha function mandates可以拆分
have portfolio fully-hedged but then also add an external currency overlay manager to portfolio
alpha mandates: should have minimum correlation with both the major asset classes and the other alpha sources in the portfolio
可以添加多种overlay strategies
several currency overlay managers with different styles
fund-of-funds approach
Tactical Decisions
which FX exposures to accept and mange within these discretionary limits
based on economic fundamentals
in the long-run, real exchange rate will converge to its fair value
in short- to medium-term, influenced by factors
interest rate
inflation
market risk premium
based on technical analysis
in a liquid, freely traded market the historical price data can be helpful in projecting future price movements
historical patterns have a tendency to repeat
technical analysis does not attempt to determine where market prices should trade but will trade
identify market trend and turning points
based on carry trade
borrow in low-yield currencies and invest in high-yield currencies
carry trade是violation of uncovered interest rate parity
uncovered interest rate parity
yield spread advantage for high-yielding currency is offset by depreciation of the high-yield currency
策略：buy high-yield currency & sell low-yield currency
forward rate bias
Forward rate should be an unbiased predictor of future spot rates
forward premium: >0, overstates the amount of appreciation of the base currency
sell
forward discount:<0, overstates the amount of depreciation
buy
covered interest rate parity
if base currency has a lower interest rate than price currency, forward premium
sell
if base currency has a higher interest rate than price currency, forward discount
buy
return distribution has a pronounced negative skew
funding currencies are typically the safe haven currencies and investment currencies are typically currencies perceived to be higher risk
Tools
forward
forward比futures好的原因
forwards can be customized
futures might not be available for less liquid currencies
futures require up-front margin or additional variation margin, therefore need careful monitoring
forward contracts are more liquid than futures for trading in large sizes
hedge类型
static hedge
will avoid transaction costs but will tend to accumulate unwanted currency risk
dynamic hedge
need periodical rebalancing
影响rebalancing频率的因素
degree of risk aversion
tolerance for active trading
confidence in a particular market view
roll yield
positive: buy base currency at forward discount or sell it at forward premium
negative: buy base currency at forward premium or sell it at forward discount
roll yield影响hedge ratio
positive, more likely be fully hedged or even over-hedged
negative, lower hedge ratio
roll cost> hedge gain
risk-neutral manager would not hedge
risk-averse manager might still implement the hedge(
FX Swaps
matched swap
spot leg
price on the mid-market spot exchange rate
forward leg
取决于base currency的交易方向，sell -- bid price; buy -- offer price
mismatched swap
spot leg
当forward size更大时，使用forward leg所确定的price
forward leg
取决于base currency的交易方向，sell -- bid price; buy -- offer price
Currency options
remove the opportunity cost
Trading Strategies (cost-reduction measures)
accept some downside risk and forgone some upside profits
forward
based on market view over-/under-hedging
结论：increase hedge ratio if base currency depreciate, decrease hedge ratio if the base currency appreciated
protective put (OTM option)
risk reversal
long a call option + short a put option
long collar = short a risk reversal
put spread
long OTM put option + write deeper-OTM put option
zero costs: alter strike price or notional amounts or both of them
seagull spread
short position (short wings)
long ATM put + write OTM put and OTM call
long position (long wings)
write ATM call + long OTM put and OTM call
Exotic options
are designed to customize the risk exposures of client
knock-in/knock-out options
cheaper
binary options
more expensive but more gain
解题思路
1. identify base currency,使用的derivatives针对base currency
2. identify transaction side
3. 调节strike prices & notional amounts towards a zero-cost structure
EM Currencies Hedge
challenges
higher trading costs (wider bid-offer spreads) than major currencies
increased likelihood of extreme market events and severe illiquidity under stressed market conditions
non-deliverable forwards
cash settled in the non-controlled currency rather than physically settled
amount is converted to non-controlled currency use future spot rate
non-controlled currency is usually USD or some other major currency
credit risk of an NDF is lower
sudden changes in government policy can lead to sharp movements in NDF rate (tail risk)
Multiple Currencies Hedge
cross hedge
move currency risk from one foreign currency to another foreign currency
minimum-variance hedge ratio (optimal ratio)
主旨：minimize the tracking error between the value of the hedged asset and the hedging instrument
公式
basis risk is brought into the portfolio when a direct currency hedge is replaced with an indirect hedge
proxy hedge
remove foreign currency risk by hedging it back to the investor's domestic currency
Volatility Trading
delta heding
hedging away the option position's exposure to price risk of the underlying FX spot rate
straddle
both an ATM put and call
strangle
both an OTM put and call
the cost is cheaper
投资者类型
speculative traders: often want to be net-short volatility
hedgers: be net-long volatility
Foreign Exchange Markets
spot
exchange rate: price currency/ base currency (P/B)
EUR&GBP: EUR is base currency
GBP & other currencies: GBP is base currency
AUD/NZD & Not EUR/ GBP: AUD/NZD is base currency
USD & other currencies: USD is base currency
usually priced out to four decimal places
T+2 settlement
bid & offer price (both based on price currency)
bid price: investor is willing to sell the base currency &the counterparty is willing to buy one unit of the base currency
offer price: investor is willing to buy the base currency & the counterparty is willing to sell one unit of the base currency
forward
quote: based on points, the difference between the forward exchange rate and spot exchange rate
mark-to-market value
步骤
1. Create an equal and offsetting forward position
2. Determine the rate for offsetting forward position
3. Calculate the cash flow at settlement day = (new spot rate - forward rate) × contract size
long position: then appreciate, gain
short position: then depreciate, gain
4. Calculate the PV of cash flow (currency of cash flow and discount rate must match)
FX swap
种类
matched swap: two legs are of equal size, use mid-market spot exchange rate
mismatched swap: one leg can be larger than the other, adjust to spot exchange rate
和currency swap的比较
相同：需要交换principal amount
不同：no interim interest payments and are nearly always of much shorter term
用处：可以用来roll forward contracts
currency option
Influence on asset return & risk
return
one asset
multiple assets
risk
公式
特例：
Add exchange rate risk exposure to the portfolio usually adds to domestic-currency return variance
negative correlations among variables will help reduce the overall portfolio's risk through diversification effects
Rfx is calculated as the change in the directly quoted exchange rate, domestic currency is the price currency