American Accounting Association 2006 Midwest Region Meeting March 30 – April 1 Chicago, Illinois

Friday, March 31, 4:00 p.m. to 5:40 p.m.
Concurrent session 4E - Multinational Issues (International Accounting)

Title: UK Multinationals’ Effective Use of Financial Currency-Hedge Techniques: A Firm-Specific Approach to Estimating and Explaining Foreign Exchange Exposure

Stephen D. Makar University of Wisconsin Oshkosh

Stephen H. Huffman University of Wisconsin Oshkosh

ABSTRACT: Using a unique dataset of recently available accounting disclosures, this study examines the relationship between UK multinationals’ stock returns and changes in the principal exchange rate to which each firm is most exposed. We find more firms with significant foreign exchange exposure estimates employing this firm-specific principal currency data, compared to those exposure estimates using the broad exchange rate index data prevalent in prior studies. The cross-sectional variations in such principal-currency exposure estimates are explained in relation to the financial currency-hedge techniques that each firm specifically identifies as being used to manage its currency risk. In particular, we provide evidence that firms effectively use foreign currency derivatives and foreign denominated debt to reduce the currency risk associated with the bilateral exchange rate to which they are most exposed. Finally, we document that neither the estimation nor the explanation of foreign exchange exposure is sensitive to the return horizon or to the firm’s value at risk, size, ratio of foreign sales to total sales, or use of non-financial currency hedges.

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