TARDIS Trades

In 2008, exporters in many countries suffered large currency losses. The companies exported to Europe and North America, who paid in dollars that had to be converted into the exporter’s home currency—Japanese yen, South Korean won, Taiwanese dollar, Chinese renminbi, or the Indian rupee—to meet costs. If the dollar fell, then the exporters lost money as revenues fell in local currency terms.

In 2007, the dollar started to fall, causing panic amongst exporters with unhedged dollar revenues. Exporters sought help from financial engineers, who helped clients travel back in time on Dr Who’s TARDIS (Time And Relative Dimension(s) In Space) to when the dollar was stronger.

Assume that the Japanese exporter, with yen as its currency of operation, has $1 million of export revenue. It has budgeted on an exchange rate of $1 equal to ¥100, giving it ¥100 million of revenue. If the dollar falls to ¥90 (dollar depreciation or yen appreciation), then the exporter’s revenue falls to ¥90 million, a loss of ¥10 million (10 percent). The bank enters into a hedge where the exporter sells dollars at ¥95 (¥9.5 million in revenue), better than the current market rate of ¥90; a level at which the exports are still profitable to the company. It has the right to convert at ¥95 only if the yen does not strengthen above ¥85. At that level, the contract disappears, knocks out. If the yen weakens below ¥100 then the exporter must sell double the amount of dollars ($2 million) at ¥100 to the bank, the knock-in provision. This was known as the currency accumulator. Its relative, the target redemption forward, was similar but knocked out after the exporter made an agreed profit on the contract.