Academic journal article International Management Review

Usage of Financial Derivatives under IAS No. 39: Evidence from the Emerging Capital Market of Jordan

Academic journal article International Management Review

Usage of Financial Derivatives under IAS No. 39: Evidence from the Emerging Capital Market of Jordan

Article excerpt

[Abstract] The main aim of this paper is to examine the corporate usage of derivatives for Jordanian companies. Employing a survey questionnaire, the general findings indicate that 60% of the sample firm use derivatives in their operations to primarily hedge against future transactions. In addition, the study pointed out that large companies tend to use such instruments more than their small counterpart. For time and sourcing issues, the current study investigates the usage of derivatives for both services and manufacturing companies listed in the first market of the Jordanian capital market. Hence, future research needs to re-examine the same issue using different sectors and covering companies listed in the second market.

[Keywords] financial derivatives, equity securities, risk management, capital market, Jordan

Introduction

Lee and Tan (1994) have argued that financial instruments can be both primary instruments (non-derivatives such as receivables, payables, equity securities) and secondary instruments (derivatives such as forward contracts and options). Over the last two decades, many derivative instruments have evolved that are both complex and difficult to categorize (Condon, 2008). The extant literature has highlighted a number of factors that have led to an explosive growth in the usage of these FIs. First, the finance industry has been successful in creating a variety of new over-the-counter (OTC) and exchange-traded products which are designed to suit the specialist needs of certain firms (Froot et al., 1993; Li & Gao, 2007). Second, deregulation of the financial services industry, increased competition among financial institutions, changes in tax laws, and developments in computer technology have also contributed to growth in this usage (Hwang, 2002; Gebhardt et al., 2004). With this widespread and increasing use of derivatives, there has been a considerable rise in the number of reported financial scandals throughout the corporate sector. Indeed, sizeable losses have been attributed to the misuse of derivative products (Drummond, 2002). These scandals and losses have contributed to calls for greater transparency and stronger corporate governance mechanism in the area (Dunne et al., 2003), increased disclosure (Li & Gao, 2007) and tighter regulations (Benston & Hartgraves, 2002).

The primary aim of the current paper is to investigate the corporate of financial derivatives by Jordanian listed firms. The sample of the present study consists of some 82 non-financial firms, which are listed in the Amman Stock Exchange. Using a survey questionnaire for the sample firm, the results of the study indicate that 60% of Jordanian listed companies use such instruments in their operation. The remainder of this paper is organized as follows. Section 2 reviews the literature of derivative instruments. Section 3 discusses the research methodology and the sample of the current study. Section 4 presents the results of the study, while section 5 concludes the paper and highlights the main findings.

Literature Review

A number of empirical studies have investigated risk management practices in companies by exploring how firms use FIs to manage their risk exposures (e.g., Bodnar et al., 1995; 1996; 1998; Grant & Marshall, 1997). In particular, these studies have focused on firms' usage of FIs (especially derivatives); all of these studies have documented a big increase in the use of derivatives and other FIs over recent years. An analysis of the extant literature on the usage of derivative instruments reveals that: (i) derivative instruments are widely used by companies (both financial and non-financial) in both developed (e.g. the US and the UK) and developing markets (e.g. Brazil, Pakistan, Turkey); (ii) a variety of derivative instruments have been used by companies such as options, forwards, futures, swaps, OTC products, and hybrid debt; (iii) firms tend to use derivative products for different purposes, such as hedging, earnings management and/or speculation; and (iv) market risk is the most common risk to be hedged against, although other types of risk are also hedged (e. …

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