DEFINITION of 'Transfer Risk'

The risk that a local currency cannot be converted into the currency that a debt is denominated in. Transfer risk, also known as conversion risk, may arise due to a currency not being widely traded, or from capital controls that prevent an investor or business from freely moving currency in or out of a country.

BREAKING DOWN 'Transfer Risk'

The rapid growth of international trade over the past century has increased the flow of goods and services across borders, has greatly increased access to a wider variety of goods, and has helped keep prices low. There are, however, risks involved in buying goods from a company on another side of the globe.

When a company in the United States buys goods from a company from Japan, the transaction will typically be denominated in dollars or yen. These are heavily traded currencies, so it is relatively easy for the U.S.-based company to convert dollars into yen. Both countries also have well-regulated and stable economies that allow transactions to be conducted without many limitations. The currency that the businesses decide to conduct the transaction in will depend on the needs of each business.

In some cases, however, a business may purchase goods from a foreign company located in a country where it is more difficult to convert currency. Companies are subject to the laws of the country in which they are doing business. These laws may affect how business is conducted, bank transactions are processed, and goods are shipped out.

For example, a banking regulation in a foreign country may prevent a business from withdrawing funds held in a foreign bank from a sale for several months. While the funds are being held, the value of the foreign currency may decrease relative to the value of currency from the country the business is located in. This could result in the business losing money on the transaction.

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