What is 'Translation Risk'

Translation risk is the exchange rate risk associated with companies that deal in foreign currencies or list foreign assets on their balance sheets. Often times, a company that does business internationally or that holds assets in a foreign country will eventually have to exchange the foreign currency back into their country of domicile's currency. If exchange rates have fluctuated a large amount, this could lead to significant changes in the value of the foreign asset or income stream. This creates risk for the company because it can sometimes be difficult to tell how much the value of currencies are going to move relative to each other. The greater the proportion of a company's assets, liabilities or equities denominated in a foreign currency, the greater the company's translation risk. Translation risk would be much more transparently titled if it were called "currency exchange risk" instead.

BREAKING DOWN 'Translation Risk'

Translation risk poses a serious threat to companies conducting business in foreign markets. This is especially true for companies that conduct business in developing or frontier markets where the political climate is unstable and the value of the local currency is prone to fluctuation. Exchange rates can change between quarterly financial statements, causing significant variances between the reported figures from quarter to quarter. This can sometimes cause volatility in the company's stock price. Companies can attempt to minimize these risks by purchasing currency swaps or hedging through futures contracts. In addition, a company can request that clients pay for goods and services in the currency of the company's country of domicile. This way, the risk associated with local currency fluctuation is not borne by the company but instead by the client who is responsible for making the currency exchange prior to conducting business with the company.

RELATED TERMS
  1. International Currency Converter

    An international currency converter converts the value of one ...
  2. Key Currency

    A key currency used is money issued by stable, developed country ...
  3. Transfer Risk

    Transfer risk is the threat a local currency cannot be converted ...
  4. Currency History

    Currency history is a term that refers to the values of a base ...
  5. Currency Board

    A currency board is a monetary authority that makes decisions ...
  6. International Currency Markets

    The International Currency Market is a market in which participants ...
Related Articles
  1. Investing

    Protect Your Foreign Investments From Currency Risk

    Hedging against currency risk can add a level of safety to your offshore investments. Find out more about currency risk analysis in global investing.
  2. Trading

    Exploring Non-Dollar Currencies For Forex Trading

    Learn how investments in foreign currencies can diversify your portfolio.
  3. Trading

    Hedging with currency swaps

    The wrong currency movement can crush positive portfolio returns. Find out how to hedge against it with currency swaps.
  4. Trading

    6 factors that influence exchange rates

    Aside from interest rates and inflation, the exchange rate is one of the most important determinants of a country's level of economic health.
  5. Trading

    Currency fluctuations: How they effect the economy

    Currency fluctuations are a natural outcome of the floating exchange rate system that is the norm for most major economies. Read on for what effects these changes can have.
  6. Investing

    How Currency Risk Affects Foreign Bonds

    Foreign bond investors take advantage of higher interest rates diversifying their holdings. Learn about the increased risk from currency instability.
  7. Insights

    How to Invest In Developing Markets

    Developing markets can be attractive additions to many investor's portfolios, but carry additional risks that must be considered.
  8. Trading

    Understand the Indirect Effects of Exchange Rates

    Exchange rates have a tremendous influence on the economy. Exchange rates can indirectly affect many of the most important aspects of our lives.
  9. Personal Finance

    The Worst Place to Exchange Currency

    Exchanging currency is a necessary part of traveling, but not all currency exchanges are created equal. Here are the worst places to exchange.
RELATED FAQS
  1. What is foreign exchange?

    Foreign exchange is the conversion of a country's currency into another. In a free economy, a country's currency is valued ... Read Answer >>
  2. How do national interest rates affect a currency's value and exchange rate?

    Generally, higher interest rates increase the value of a country's currency and lower interest rates tend to be unattractive ... Read Answer >>
  3. What are the advantages of foreign portfolio investment?

    Learn the advantages that businesses can derive from foreign portfolio investment in an increasingly globalized business ... Read Answer >>
  4. What are key economic factors that can cause currency depreciation in a country?

    Read about the causes of currency devaluation, and find out how to differentiate between relative and absolute currency devaluation. Read Answer >>
Trading Center