International Financial Management

Introduction

The globalization of world markets over the last couple of decades has greatly increased international trade and capital flows. Few modern industries have been left unaffected by these changes, and understanding the risks firms face when conducting business across international borders has become a key component of a modern business education. Managers responsible for operations in several countries must understand the impact on a firm's cash flows from changes in exchange rates as well as from differences in interest rates and the prices of goods across these locations.

More and more international financial and economic data are becoming available. Financial theory is lenses through which we study data, and helps us identify what data to use and how to analyze the data. We will strive to use digital tools, such as spreadsheets and R, to access up-to-date data and to base quantitative exercises and cases on actual, recent data. 

This course will describe exchange rate fluctuations. We will use the empirical failure of the parity conjectures to get a deeper understanding of exchange-rate risk facing both businesses and individuals. We will then cover financial instruments that are available to manage the risks involved in international operations and how hedging may be value creation. For businesses, access to international markets comes with opportunities in addition to risk, and the course will examine how increased diversification internationally also may be financial value-added. Finally, globalization has lead to increased integration in the world economy. During the course, we will also cover "political risk" and emphasize that it is not only a concern in emerging economies.

Course content

International financial management

1. Nominal exchange rates
2. Two key no-arbitrage relationships
3. - absence of triangular arbitrage
4. - covered interest rate parity
5. Test of conjecture: nominal-exchange-rate changes are reflections of changes in price levels across countries. One takeaway: real exchange rates are almost as volatile as nominal exchange rates
6. Test of conjecture: exchange-rate-changes (both nominal and real) are reflections of interest-rate differentials across countries. One takeaway: exchange rates are not only volatile and unpredictable, but they are also risky

Tools to manage exchange-rate risk:

1. Futures and forwards
2. Options
3. Swaps

How and when should these tools be used

1. When is hedging value added?  Miller-Modigliani applied to fx hedging
2. International capital budgeting
3. Value added from international diversification