Financial Distress Risk and the Hedging of Foreign Currency Exposure

Abstract

We examine the use of foreign currency hedging instruments by US manufacturing firms during 1996–2004, and assess their impact on the firms' risk of financial distress. We derive measures of financial distress using the Black–Scholes–Merton option pricing model and find that the use of foreign currency hedging instruments reduces the firms' financial distress. The main findings are confirmed when examining alternate measures of foreign currency exposure, econometric specifications or measures of financial distress.