Foreign Exchange Exposure Elasticity and Financial Distress

Authors

  • Kelsey D. Wei,

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    • Kelsey D. Wei is an Assistant Professor in the Naveen Jindal School of Management at the University of Texas at Dallas in Richardson, TX. Laura T. Starks is the Charles E. and Sarah M. Seay Regents Chair in the McCombs School of Business at the University of Texas at Austin in Austin, TX.

  • Laura T. Starks

    Search for more papers by this author
    • Kelsey D. Wei is an Assistant Professor in the Naveen Jindal School of Management at the University of Texas at Dallas in Richardson, TX. Laura T. Starks is the Charles E. and Sarah M. Seay Regents Chair in the McCombs School of Business at the University of Texas at Austin in Austin, TX.


  • The authors would like to thank Bill Christie (Editor), two anonymous referees, Andres Almazan, Warren Bailey, Sohnke Bartram, Greg Brown, Alex Butler, Fang Cai, Ty Callahan, Katheryn Dewenter, Li Gan, Jane Ihrig, Stephen Magee, Bernadette Minton, Sridhar Sundaram, Sheridan Titman, Hong Yan, and the participants at seminars at the University of Texas at Austin, the FMA meetings, and the WFA meetings for helpful comments.

Abstract

Financially distressed firms have limited ability to manage exchange rate exposure over time which could cause their fundamental value to be sensitive to the cash flow volatility related to currency movements. Accordingly, we hypothesize that the likelihood and costs of financial distress help explain cross-sectional variations in return sensitivity to currency movements. We find that the level of exchange rate exposure elasticity is related to proxies for the likelihood of financial distress, growth opportunities, and product uniqueness. Further, firms with a greater likelihood and higher costs of financial distress exhibit greater abnormal returns in response to large exchange rate shocks.

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