Understanding Currency Overlay in Multinational Management

Company XYZ is a multinational corporation that generates significant revenue from international markets, leading to considerable exposure to currency fluctuations. In order to manage its currency risk, the company has decided to adopt a currency overlay strategy, which involves a combination of active and passive management techniques to mitigate the impact of exchange rate movements on its portfolio.

As an investment manager, you are asked to explain the concept of currency overlay and its importance to the company's overall currency management strategy. In your response, please address the following points:

• Define currency overlay and describe its key components.
• Discuss the potential benefits and risks associated with implementing a currency overlay strategy.
• Provide an example of how a currency overlay can affect the performance of a multinational corporation's investment portfolio.