What does it mean to 'hedge' currency exposure?

Hedging currency exposure refers to the strategy of taking a position in the foreign exchange market that is intended to offset potential losses from fluctuations in currency values. This technique is commonly employed by businesses and investors who engage in international trade or investments and are thus vulnerable to the risks posed by changing exchange rates. By hedging, they can protect their cash flows and profit margins from adverse movements in currency values.

For example, if a company expects to receive payments in a foreign currency, it may choose to hedge its exposure by entering into a contract that allows it to lock in a specific exchange rate. This way, regardless of whether the currency strengthens or weakens by the time the payment is received, the company can manage its financial risk effectively.

The other options do not accurately describe hedging. Increasing exposure to currency fluctuations would imply taking on greater risk rather than minimizing it. Analyzing trends without action does not involve mitigation of risk. Converting local currency into foreign currency is simply a transaction and does not incorporate the strategic aspect of managing financial exposure.