What is FX or currency risk?

Currency risk, often referred to as foreign exchange (FX) risk, specifically pertains to the potential loss that can occur due to fluctuations in exchange rates between currencies. This risk is prevalent for businesses and investors who operate in multiple currencies, as any change in the exchange rate can affect the value of transactions, investments, or earnings when converted back to the home currency.

For instance, if a company based in the UK conducts a trade with a partner in the US, and the value of the US dollar declines against the British pound, the company would receive less value when the dollar earnings are converted into pounds after the transaction. This potential loss underscores the importance of understanding FX risk for anyone involved in international trade or investment.

The other choices each refer to different types of risks that, while relevant in financial contexts, do not specifically encompass the implications of foreign exchange fluctuations. Transactional delays relate to timing issues rather than currency value changes. Liquidity risk involves the availability of sufficient cash or assets to meet obligations, and unfavorable financing terms are concerned with the nature of agreements rather than the impact of currency movements. Therefore, the focus on potential losses due to exchange rate changes defines currency risk accurately.