| Abstract | Derivatives have been using widely in the world over the last 30 years as an important risk management instrument. Although theoretical researchers suggest that derivatives usage can enhance value of a firm by alleviating costs arising from several market imperfections, the existing evidence is not quite consistent among empirical studies up to date. The purpose of this thesis, therefore, aims to examine determinants of derivatives use, a relationship between derivatives use, firm value, and exposures for a sample of 881 non-financial firms in eight East Asian countries in the 2003- 2013 period. The analysis is based on a novel and manually collected data.
We find that firms in countries with lower corruption have more incentive to use financial derivatives and use derivatives with greater intensity than those firms located in highly corrupt countries. Better governance induces firms to use derivatives to hedge exposure and mitigate costs. Firms in countries with weak governance use derivatives for speculating and/or selective hedging or self-management purposes. Overall, our findings provide strong evidence of the role of countries’ governance quality in driving firms’ derivatives-related behaviors. This macro-based effect on derivatives use is independent from firm-specific factors, which are frequently invoked by hedging theories.
Regarding relationship between firm value and derivatives use, using Tobin’s Q as a proxy of firm value, we find that low corruption level of home country (host country) induces the use of financial derivatives and rewards domestic firms and domestic MNCs (foreign affiliates) with higher value; this finding holds after controlling for endogeneity and self-selection bias. Hedging behavior of domestic MNCs outperforms domestic firms and foreign affiliates in terms of firm value. Derivative usage is value-enhancing activity for domestic firms and domestic MNCs, but it does not add value for foreign affiliates. During the crisis, the effect of low level of corruption on alleviating negative impacts of the crisis on derivatives usage is very modest. Yet, low corruption level of home country is positively associated with hedging premiums of domestic firms and domestic MNCs in the post-crisis period.
Finally, we measure exposure to home (host) country risks, and provide novel evidence that financial derivatives use of domestic firms and domestic MNCs reduces exposure to home country risks by 11.4% and 13.4% per 1% increase in notional derivative holdings, respectively, while foreign affiliates fail to mitigate exposure to host country risks. The use of foreign currency and interest rate derivatives by domestic firms and domestic MNCs is effective in alleviating firms’ such exposures to varied degrees, but foreign affiliates using derivatives only can lower interest rate exposures. Domestic MNCs have the smallest exposures, and domestic MNCs with derivatives activities reduce exposures in the largest magnitude compared to other firms. The financial crisis weakens the effect of derivative usage on exposures, but it is stronger after the crisis than in pre-crisis period. |
|---|