The German humpback: Internationalization and foreign exchange hedging

• High levels of internationalization may reduce the need for foreign exchange hedging.
• Diversification and operational hedging have the potential to reduce risk.
• We find an inverse U-shape relationship (“humpback”) for German firms.
• Foreign exchange hedging activity peaks when half of sales is outside Europe.

Previous studies find a monotonic positive relationship between a firm's internationalization and its foreign exchange hedging. We argue that high levels of internationalization can reduce the need for foreign exchange hedging through diversification (e.g. sales to several markets) and operational hedging (matching of cash flows and operational flexibility). We employ multivariate regression analysis and find an inverse U-shape relationship (“humpback”) for large listed non-financial German firms. Foreign exchange hedging activity peaks when half of sales (or long-term assets) is outside Europe. We do not find support that diversification or production facilities abroad drive our results. Our paper is the first empirical paper to document an inverse U-shape relationship between internationalization and foreign exchange hedging.