Currency risk: meaning and a worked example

What is currency risk

Currency risk, also called exchange rate risk or forex risk, is the chance that a change in the exchange rate between currencies changes the value of money, an asset or a profit you hold or expect to receive.

It applies whenever two currencies are involved: the currency you think in (often the Pakistani rupee) and the currency an asset, account or payment is in (often the US dollar).

Worked example (hypothetical)

A trader in Pakistan holds an account in US dollars and opens a position on a US stock index CFD. The index rises, and the position closes with a profit in dollars.

Between opening and closing, the rupee strengthens against the dollar. When the trader values that dollar profit in rupees, it is worth fewer rupees than on the opening day. The trade made money in dollars, but part of the gain is lost in rupee terms.

The reverse also happens. If the rupee weakens, a dollar profit is worth more in rupees. A dollar loss also becomes a larger rupee loss. The price of the index and the exchange rate are separate sources of gain or loss, and they can add up or cancel out.

To see the effect with your own numbers, use the trading calculators. They show how profit in one currency converts into another.

Where you see the term

• Trading platforms. MetaTrader shows profit and margin in the account currency. If an instrument is quoted in a different currency, the platform converts the result, and that conversion carries currency risk.
• Broker account settings. The currency you choose when opening an account decides which conversions apply. At Exness, check the currency options available to you in the personal area.
• Company reports. Annual reports usually have a section on "foreign exchange risk" listing assets, debts and sales in foreign currencies.
• News. Reports on rupee depreciation or appreciation, import costs and foreign debt are all about currency risk.

Formal definition and edge cases

In finance, currency risk is the sensitivity of a position's value, measured in a base (reporting) currency, to changes in exchange rates. It is usually split into:

• Transaction exposure. A known future payment or receipt in a foreign currency.
• Translation exposure. Foreign-currency assets and liabilities restated into the reporting currency.
• Economic exposure. The long-run effect of exchange rates on revenue, costs and competitiveness.

Edge cases experienced traders should know:

• The asset and the currency can be correlated. Gold or US indices often move with or against the dollar, so the total exposure is not the simple sum of the parts.
• Managed rates are not risk-free. A crawling peg or a fixed rate can still end in a sudden devaluation.
• Hedging has a cost. A forward contract fixes a rate, but the forward price reflects the interest rate gap between currencies (see covered interest parity).
• Cross-currency pairs. On currency pairs where neither side is your account currency, the result goes through a further conversion.

Leveraged forex and CFD trading can lose money fast, and currency risk can make a loss larger. Read more in risk management.

Related terms

• Account currency
• Currency depreciation and currency appreciation
• Dollarization
• Forward points
• Trading glossary

Frequent questions

What is the difference between currency risk and forex risk?

None in everyday use. Both mean exposure to exchange rate changes. "Forex risk" is more common among traders, while "exchange rate risk" is more common in company reports.

Do I have currency risk if my account is in dollars?

Yes, if you measure your money in rupees. Your balance stays the same in dollars, but its rupee value changes with the exchange rate.

Can currency risk be removed completely?

It can be reduced, for example by matching currencies or hedging with forwards. Hedging has costs and its own risks, so some exposure usually remains.

Does currency risk apply to non-forex instruments?

Yes. Any stock, index, metal or commodity priced in a foreign currency carries it for a holder who measures results in another currency.