Turan Erol¹, Ayhan Algüner², Güray Küçükkocaoğlu^2,

Firms in emerging economies face a potentially higher degree of transaction and economic exposure compared to those in advanced economies. This is due to fact that most of hedging instruments available in advanced financial markets are not available for firms of emerging markets. Another peculiarity of the exposure of firms in emerging economies derive from the fact that these firms are usually price-takers in international trade and have little power to pass through the changes in exchange rates to foreign buyers. This study is one of the few attempts to directly estimate the exposure of real sector firms from an emerging economy. The paper focus on the determinants of exposure as revealed by the estimates from the two-factor CAPM model. Five main determinants of exposure that are thought to be the most relevant in the particular case of Turkey. These are the level of foreign sales, industry competition, net foreign non-financial liabilities, net foreign currency debt and finally domestic risk free assets. The estimates based on a sample of Turkish manufacturing firms reveal a positive but lagged exposure to real exchange rate changes. A result from the estimations of the two-factor model is the insignificant coefficients on the current exchange rate under all categories. This is a strong evidence against the Efficient Market Hypothesis (EMH) and an evidence for mispricing or a form of market inefficiency. The foreign sales ratio is found to be the most important positive determinant of exposure. However, foreign debt and other foreign non-financial liabilities make negative contribution to exposure. This indicates that measurable exposures are not easily hedged because of the missing derivative markets. Finally, competition is found to make a marginal contribution to the exposure.

exchange rate exposure, firm value, currency derivatives, industry structure