International Financial Management (AF5362)

2018/2019 Semester Two

Time & Venue: Wed 8:30-11:20, Y512

Instructor: Dr. Anson Wong
Office: M702
Phone Number: 34003451
E-mail Address: afanson@polyu.edu.hk
Consultation Hours: Wed 13:30 – 17:30, or by appointment

Course Description:
This course introduces students to various international financial markets and instruments,
and examines their implications for the financial management of firms and investors.

We first examine the foreign exchange market and the different exchange rate systems that
different countries adopt, paying special attention to Hong Kong’s currency board system.
Although we study various approaches of exchange rate determination, we emphasize that
exchange rate movements are difficult to forecast. This difficulty motivates our in-depth
coverage of foreign exchange risk management.

Next, we go beyond the foreign exchange market and study the international debt and
equity markets – both from a company’s and an investor’s perspective. For companies, the
debt and equity markets are channels through which new capital can be raised. For
investors, these are markets they can make use of to generate investment returns.

Learning Outcomes:

On completion of this subject, students will be able to:

1. Understand the structure and characteristics of various international financial

markets and instruments;
2. Understand how different exchange rate systems (especially Hong Kong’s currency
board system) function and how they affect an economy’s business environment;
3. Identify the sources of risks in international transactions and understand how these
risks can be managed;
4. Identify and analyze the international dimensions of the debt and equity markets,
and understand their implications for a company’s financing decisions and
investment policies.
Continuous Assessment:
Midterm Exam 20%
Subject Assessment Group Presentation 7%
Continuous Assessment 45% Written Report 13%
Final Examination 55% Class Participation 5%
Total 100% Total 45%

Students will be required to solve problems and cases in the midterm exam, the
presentation/written report, and the final exam that test their understanding of how
exchange rates are determined, the relationship between exchange rates and interest rates,
the characteristics of international financial instruments, and the impact of different

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exchange rate systems on the business and economic environment. (Learning Outcomes
1 and 2) In the presentation/written report and the final exam, there will also be cases
and problems that test if students can identify what the sources of risks are in international
financial transactions, make use of financial instruments and/or operational hedges to
manage those risks, and understand the implications of the international nature of the debt
and equity markets for corporate financial decisions. (Learning Outcomes 3 and 4)
Aggregating across these assessment tasks, the overall weights assigned to each of the
Learning Outcomes 1 and 2 will be approximately 25%, and the weights on
Outcomes 3 and 4 will be approximately 35% and 15%.

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Grading
Assessment grades are awarded on a criterion-referenced basis. The following assessment tasks are specifically designed to assess
students’ performances with respect to the four different areas.

A B C D F
Group - Provide a - Provide an analysis - Provide an analysis - Provide an analysis - Provide an analysis
Presentation comprehensive and that contains very that contains that contains major that is completely
correct analysis of the few minor errors several minor errors and omissions inadequate
case/problem in and omissions errors and
relation to Learning omissions - Provide a marginally - Presentation of
Outcomes 1-4 - Provide a understandable both the
reasonably clear - Provide an presentation of both question/case and
- Provide a very clear and understandable understandable the question/case and the analysis are
and understandable presentation of presentation of the analysis difficult to
presentation of both both the both the understand
the question/case and question/case and question/case and - Able to make the
the analysis the analysis the analysis presentation - Unable to make the
marginally interesting presentation
- Able to make the - Able to make the - Able to make the interesting at all
presentation very presentation presentation - The allocated time is
interesting interesting somewhat not well-managed - The allocated time
interesting is poorly-managed
- Use the allocated - Use the allocated
time (25 min) very time reasonably - Acceptable time
well, did not over-run well management

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 A B C D F
Written - Provide a - Provide an analysis - Provide an analysis - Provide an analysis - Provide an analysis
Report comprehensive and that contains very that contains that contains major that is completely
correct analysis of the few minor errors several minor errors and omissions inadequate
case/problem in and omissions errors and
relation to Learning omissions - Only marginally - Very difficult to
Outcomes 1-4 - Quite well- comprehensible understand
organized and easy - Can be understood
- Well-organized and to follow without too much
easy to follow effort

Class - Frequently initiate - Frequently - Regularly - Occasionally - Never participate

Participation and participate in participate in class participate in class participate in class in class discussions
class discussions, discussions discussions discussions
which enhance the
achievement of
Learning Outcomes
1-4 substantially
Mid-Term - Demonstrate a strong - Demonstrate a good - Demonstrate an - Demonstrate a - Fail to demonstrate
Exam understanding of the level of acceptable level of minimum level of a minimum level
topics (as given by understanding of understanding of understanding of the understanding of
Learning Outcomes the topics being the topics being topics being tested the topics being
1-2) being tested tested tested tested

Final Exam - Demonstrate a strong - Demonstrate a good - Demonstrate an - Demonstrate a - Fail to demonstrate
understanding of the level of acceptable level of minimum level of a minimum level
topics (as given by understanding of understanding of understanding of the understanding of
Learning Outcomes the topics being the topics being topics being tested the topics being
1-4) being tested tested tested tested

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Prerequisite: AF5312 Principles of Corporate Finance AND AF5344 Investments

Textbook
Eun, C.S. and B.G. Resnick, International Financial Management, 8th Edition, McGraw-
Hill, 2018.

References
Bekaert, G. and R.J. Hodrick, International Financial Management, 1st Edition, Pearson
Prentice Hall, 2009.

Shapiro, A.C., Multinational Financial Management, 8th Edition, Wiley, 2006.

Eiteman, D.K., A.I. Stonehill, and M.H. Moffet, Multinational Business Finance, 11th
Edition, Addison Wesley, 2007.

Bodie, Z., A. Kane, and A.J. Marcus, Essentials of Investments, 6th Edition, McGraw-Hill,
2007.

Written Report and Group Presentation

Group membership: Each group should be made up of 6 to 8 students.

Topic: Forecasting the Performance of a Selected Currency Against the US$

Choosing Currencies and Presentation Dates: Each group is free to choose which currency
it wants to analyze—subject to the constraints that the currency cannot be the HK$ or the
Macau pataca, and no currency can be analyzed by more than one group. To facilitate the
matching between groups and currencies, each group has to submit a Presentation
Matching Form (downloadable from Blackboard) with the following information in Class
4:

(1) Your group name (choose any name you like, for identification purpose only)
(2) The names and student ID numbers of all its group members,
(3) A numbered currency list with 10 different currencies (from (1) most preferred to
(10) least preferred)
(4) Your preferred presentation date: either Class 11 or Class 12

Based on your preferences, a special mechanism will be used in Class 5 to assign different
currencies and presentation dates to different groups.

Report Due Date and Presentation Dates: The written report will be due in Class 11 (3
April)—regardless of your presentation date; the group presentations will take place in
Class 11 (3 April) and Class 12 (10 April).

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Guidelines:
1. Predict whether your selected currency will appreciate or depreciate against the
US$ between 15 March 2019 and 31 May 2019; Predict whether your selected
currency will appreciate or depreciate against the US$ between 15 March 2019
and 30 June 2021.

2. Suggested organization:

a. Do you think your selected currency will appreciate or depreciate against

the US$ between 15 March 2019 and 31 May 2019?
b. What is the basis of your forecast?
c. Do you think your selected currency will appreciate or depreciate against
the US$ between 15 March 2019 and 30 June 2021?
d. What is the basis of your forecast?

3. Written Report Requirements:

a. Page limit: Up to 15 pages (Times New Roman, 12pt, 1.5 space), including
title page, tables, and figures.
b. The title page should contain: your group name, the exchange rate being
analyzed, the names and student IDs of each member in the group, and the
section(s) in the report for which each group member is responsible.
c. What I look for: Competent Analysis (Does the reasoning in your analysis
make sense?); Organization and Clarity (Is the report well-organized and
easy to follow? Does it fall within the page limit?)

4. Group Presentation Requirements:

a. Prior to its presentation, each group is required to submit to me a hardcopy

of the presentation slides.
b. Each presentation should take no more than 25 minutes.
c. What I look for: Competent Analysis; Presentation Skill (Is the presentation
clear? Can you make the presentation interesting?); Quality of the Handout
(Is it well-organized and easy to follow?); Time Management.

d. Data Sources: One good source of exchange rate data is the US Federal
Reserve website: http://www.federalreserve.gov/releases/h10/Hist/. If you
need other economic or financial data, there are many sources in the PolyU
Library and on the Internet from which you can obtain them. 1 While the
mark of any late submission will be deducted by 20% per
day, plagiarism will incur automatic failure. The
TURNITIN plagiarism report must be submitted along with
the written report (consult ITS for details).

5. Reference List: In the written report, you should document the data sources that
you have used and the references that you have quoted.

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If you are unable to find a particular data item and have to settle for something less ideal, document it in
your presentation/report.

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Practice Problems/Cases

Listed below are problems/cases taken from our textbook that can help you to gain a more
thorough understanding of the course material. (The asterisked problems are not from the
textbook and will be made available to you in due course.) These problems do not have to
be handed in but you are strongly encouraged to do them. If time permits, I will do some
of these problems in class. For problems that we do not have time to go through in class, I
will still make their answers available to you.

Ch. 5: Problems 5.1, 5.2, 5.11, 5.12

Ch. 6: Problems 6.1, 6.2, 6.9, 6.12, The Forex Investor*
Ch. 7: Problems 7.1, 7.2, 7.3, 7.8, Mini Case
Ch. 8: Problems 8.3, 8.6, Airbus*, Boeing*, Melbourne Industries*
Ch. 9: Problems 9.1, 9.2, 9.3
Ch. 14: Problems 14.1, 14.2, Centralia Corporation*
Ch. 15: Problems 15.2, 15.3, 15.4, 15.5, 15.6
Ch. 17: Problems 17.1, 17.2, 17.3

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 Detailed Syllabus

*Optional topics are square-bracketed and will be covered only if time permits.

Introduction

The Foreign Exchange Market (Ch. 5)

- exchange rate defined
- spot market
- forward market

Interest Rate Parity Relationships (Ch. 6a: p. 140-146)

- interest rate parity (IRP)
- uncovered interest rate parity (UIRP)
- [Capital controls and risk premium]

Exchange Rate Systems

- Fixed vs. Floating
- How to maintain a fixed exchange rate?
- Pros and cons of fixed exchange rates
- How does Hong Kong’s currency board work?
- [China’s exchange rate policy and inflation]

Exchange Rate Determination (Ch. 6b: p. 145-146, 149-165)

- Using the UIRP relationship (p.140-141)
- But where does E(St+1) come from?2
o PPP considerations (p. 149-156)
o Current account considerations (Appendix 3A, p. 81)
o Fundamental approach (p. 160-161)
o Technical approach (p. 161-162)
o Performance of the professional forecasters (p. 162-165)

Foreign Exchange Risk Management

- The Instruments: Foreign exchange futures and options (Ch. 7)3
- Why should managers care? A company’s foreign exchange exposure
o Transaction exposure (Ch. 8)
o Economic exposure (Ch. 9)
- Long-term interest rate and currency risk management: The use of swaps (Ch.
14)4
- [The foreign exchange exposure of global manufacturing firms5]

2
“Fisher Effects and Forward Expectations Parity” (p. 156-158) not required.
3
“Binomial Option Pricing Model” and “European Option Pricing Formula” (p. 189-192) not required.
4
“Pricing the Basic Interest Rate Swap” (p. 353), “Equivalency of Currency Swap Debt Service Obligations”
(p. 355-6), and “Pricing the Basic Currency Swap” (p. 356) not required.
5
See Bartram, S.M., G.W. Brown, and B.A. Minton (2010), “Resolving the Exposure Puzzle: The Many
Facets of Exchange Rate Exposure,” Journal of Financial Economics 95, 148-173.

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International Financial Markets: The Investor’s Perspective
- International portfolio investments (Ch. 15)6
o The benefits of international diversification
o The effects of exchange rate movements
o Home bias in portfolio holdings
o [Contrarian strategies in the international stock market7]

International Financial Markets: The Manager’s Perspective

- International capital structure and the cost of capital (Ch. 17)8
- International corporate governance (Ch. 4)
- [Corporate governance, cross-listing, and the cost of capital9]

6
“International Bond Investment” and “International Mutual Funds: A Performance Evaluation” (p. 377-380)
and the “In More Depth” section (p. 380-385) are not required.
7
See Richards, A.J. (1997), “Winner-Loser Reversals in National Stock Market Indices: Can They be
Explained?” Journal of Finance 52, 2129-2144.
8
The two “In More Depth” sections (p. 444-446, p. 448-450) and “The Financial Structure of Subsidiaries”
(p. 451-452) are not required.
9
See Doidge, C., G.A. Karolyi, and R. Stulz (2004), “Why are foreign firms listed in the U.S. worth more?”
Journal of Financial Economics 71, 205–238.

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 Teaching Schedule
Class Topics Main Readings

1 16/1 Introduction
The Foreign Exchange Market Ch. 5

2 23/1 Interest Rate Parity Relationships Ch. 6a

3 30/1 Exchange Rate Systems My Notes

4-9 February:
Chinese New Year Holidays (No Class)

4 13/2 Exchange Rate Determination Ch. 6b

Presentation Matching Form Due

5 20/2 Foreign Exchange Futures and Options Ch. 7

Presentation Matching

6 27/2 Transaction Exposure Ch. 8

Midterm Exam Review

Midterm Exam Venue:

7 Date & Time: 7 March 2019, Thursday, 7:15-8:45pm QR403
No Class on 6 March 2019 Z209

8 13/3 Economic Exposure Ch. 9

9 20/3 Swaps Ch. 14

International Portfolio Investments Ch. 15

10 27/3 International Capital Structure and the Cost of Capital Ch. 17

International Corporate Governance Ch. 4

11 3/4 All Written Reports Due

Group Presentations I

Group Presentations II
12 10/4 Final Exam Review
17 April (Wed): Consultation Hours in Regular Classrooms
19 April (Fri): No Class (Easter Holidays)

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