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Abstract
This paper focuses on the integrated assessment of multinational companies financial risks (cross risks). A conceptual framework for correlation analysis is presented with regard to interrelated country, customer and currency risks and it is applied on the basis of a Monte Carlo simulation. Interactions between credit and market risks are considered both on the side of risk sources and risk effects. Simulation runs for alternative correlation patterns show that different assumptions on the interrelationship of risks have quite distinctive effects on the Value-at-Risk of an international company. This allows for diversification strategies and the allocation of capital reserves. Results are presented on the basis of assumed distributions. They show that empirical work in the field of cross correlations is of special interest.
Key words: Integrated Risk Management; Cross Risks; Correlation Analysis JEL Classification: F31, G30
Introduction
In modern risk management, special emphasis is put on the aggregate effects of risks and on the management of risks on a portfolio basis1. The assessment on a portfolio basis takes diversification benefits into account and measures risks with regard to their marginal effects. When considering a multinational company (MNC), foreign exchange and political risks are unique2 and correlations between different countries, customers and currencies may contribute to considerable effects on total risk. On the other hand it is noted, that, risk factors and their interaction call for a multidimensional approach' and may lead to rather complex models. This can explain why the modelling of cross risks and the analysis of correlation patterns for international operating companies is still at its infancy*. It is therefore the purpose of this paper
to develop a framework for the conjoint measurement of interrelated financial risks of the MNC; and
to analyze the effects of different correlation patterns on the distribution of receivables from international trades,
focussing especially on cross correlations between different types of risk factors.
Results are presented with regard to a company exporting goods or investing in foreign countries and holding assets abroad. The MNC is considered to be mainly affected by different country, customer and currency developments, whereas operational risks and management or organizational characteristics are not discussed4.
Prelude
Miller sets up the general framework of uncertainties in international business and their tradeoffs. Relationships exist...