Question : What is the term used to describe the risk that changes in exchange rates will negatively impact the value of investments denominated in foreign currencies?

Option 1: Currency risk
 

Option 2: Interest rate risk
   

Option 3: Market risk

 

Option 4: Credit risk

Correct Answer: Currency risk

Solution : The correct answer is a) Currency risk

Currency risk refers to the risk that changes in exchange rates will negatively impact the value of investments denominated in foreign currencies. When an investor holds assets or investments in a currency different from their own, fluctuations in exchange rates can affect the returns and value of those investments.

Currency risk arises because exchange rates can fluctuate due to various factors such as economic conditions, interest rate differentials, geopolitical events, and market sentiment. These fluctuations can lead to gains or losses when converting the investment back into the investor's home currency.

Investors and businesses that engage in international trade or have foreign investments are exposed to currency risk. They may use various strategies to mitigate this risk, such as hedging through derivative instruments, diversifying investments across different currencies, or using currency risk management techniques.

It's important to manage currency risk effectively, especially when dealing with cross-border transactions or investments, as exchange rate movements can significantly impact the financial performance and profitability of these activities.