NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

Risk Management: Coordinating Corporate Investment and Financing Policies

Kenneth A. Froot, David S. Scharfstein, Jeremy C. Stein

NBER Working Paper No. 4084
Issued in May 1992
NBER Program(s):   CF   IFM

This paper develops a general framework for analyzing corporate risk management policies. We begin by observing that if external sources of finance are more costly to corporations than internally generated funds, there will typically be a benefit to hedging: hedging adds value to the extent that it helps ensure that a corporation has sufficient internal funds available to take advantage of attractive investment opportunities. We then argue that this simple observation has wide-ranging implications for the design of risk management strategies. We delineate how these strategies should depend on such factors as shocks to investment and financing opportunities. We also discuss exchange-rate hedging strategies for multinationals. as well as strategies involving "nonlinear" instruments like options.

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Document Object Identifier (DOI): 10.3386/w4084

Published:

  • Journal of Finance, December 1993, vol 48, 1629-1658 ,
  • The Theory of Corporate Finance, M.J. Brennan, from the series The International Library of Critical Writings in Financial Economcics, R. Roll, editor, 1995.

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