Derivatives Approach of Risk Management by Firms of Developing Countries

Abstract

Risk management has increased in importance and sophistication in recent years. Increased volatility in financial markets across the globe has led to the development of a number of new financial instruments for managing the risks associated with specific transactions. Risk managers in developed countries are busy developing new techniques for managing risks; many of the existing techniques are unavailable or not well known in developing countries. Despite the fact that managers of developing countries are becoming more and more aware of the need to manage risk, they face substantial obstacles in using risk management instruments. In many cases they have started looking towards large international finance firms as a source of information on risk and for assistance in assessing new risk management instruments. In addition to the financial risks, many firms in developing countries suffer from exposure to other economic risks like the risk of long-term overvaluation/undervaluation of their local currency, etc. It is more difficult to measure and manage these type of purely transactional exposures, which have a direct effect on competitiveness. The management of transaction exposure involves use of financial instruments; that of economic exposure requires operational and marketing strategies in order to be effective. The article concentrates on the use of risk management techniques and instruments by firms in developing countries. Real examples have been quoted to explain how firms of developing countries are using derivatives to manage their risks, and the various problems which these firms face in using derivatives have been highlighted.