Financial risk exposures and risk management: evidence from european nonfinancial firms

Resumo

Previous empirical studies concerning corporate risk management have attempted to show that the use of derivatives as a hedging mechanism can be value enhancing (e.g., Bartram; Brown; Fehle, 2009). Implicit to these tests has been the assumption that firms use derivatives solely for the purpose of hedging. Indeed, hedging, by definition, will seek to reduce the level of risk to which a firm is exposed. On the other hand, when derivatives are used to take advantage of perceived market imperfections, they will increase risk. There is substantial literature concerning nonfinancial firms that suggest that changes in financial prices affect firms' value (e.g., Bartram, 2002; He; Ng, 1998; Jorion, 1990; Tufano, 1998). Furthermore, it is a common belief that financial price exposures are created via firms' real operations and are reduced through the implementation of financial hedging strategies (Bali; Hume; Martell, 2007). We use monthly returns of 304 European firms traded in Euronext over the period from 2006-2008 to analyse whether risk management practices are associated with lower levels of risk. We pursue Jorion (1990) and Allayannis and Ofek (2001) two stages framework to investigate, firstly, the relationship between firm value and financial risk exposures; subsequently, the risk behaviour inherent to firms' real operations and to the use of derivatives and other risk management instruments. So, we argue that hedging policies affect the firm's financial risk exposures; however, we do not discard the fact that the magnitude of a firm's exposure to risks affects hedging activities.  The interaction between financial price exposures and hedging activities is tested by using the Seemingly Unrelated Regression (SUR) procedure. Our major findings are as follows: Firstly, we find evidence that the sample firms exhibit higher percentages of exposure to the three categories of risks analysed when compared to previous empirical studies. Secondly, we find that hedging is significantly associated with financial price exposure. Our results are also consistent with the idea that financial risk exposure and hedging activities are endogenously related, but only in what respects the exchange risk and commodity risk exposure.