Bridge over ocean
1 September 1993 Financial Analysts Journal Volume 49, Issue 5

The Minimum-Risk Currency Hedge Ratio and Foreign Asset Exposure

  1. Mark P. Kritzman, CFA
Opponents of currency hedging sometimes argue that hedging is appropriate only if a large fraction of the portfolio is allocated to foreign assets. Although it is usually true that the effect of currency hedging is greater for large allocations to foreign assets than it is for small allocations, it does not follow that the minimum-risk hedge ratio increases with foreign asset exposure. Under typical circumstances, the fraction of currency exposure to be hedged in order to minimize risk increases as foreign asset exposure decreases. Therefore, per unit of exposure, it is more relevant to hedge currency risk for small allocations to foreign assets than for large allocations, and some currency hedging is optimal even for portfolios with no foreign assets.
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