What is exchange rate risk?

Exchange rate risk, colloquially known as currency risk or FX risk, refers to the potential loss that may arise from an adverse movement in exchange rates. It primarily affects companies and investors who have transactions in foreign currencies or who hold assets denominated in foreign currencies. This risk arises due to the volatility of foreign exchange markets, where the value of one currency can change relative to another. For instance, a company that has revenues in euros but expenses in dollars could face losses if the euro depreciates against the dollar. Understanding and managing exchange rate risk is crucial for any organization or investor with international exposure.