The existence of an internal audit department is recognized as a strong element of a company's control environment. Internal auditors can perform financial audits (similar to that of the external audit) or operational audits (audits of the effectiveness of operations and compliance with controls).

Required

Assume that the client has started investing in financial instruments.

a. Develop a comprehensive operational audit program to identify the risk associated with such investments, management controls designed to address those risks, and the effectiveness of the board of directors, management, and the audit committee review of such risks.

b. Assume that management reports that they are using "hedging contracts" to reduce exposure to foreign currency fluctuation as well as future price changes in raw materials.You have read that it is often difficult to determine whether some of these financial instruments are hedges or are speculative investments. In completing this audit:

1. Briefly describe the difference between a hedge and a speculative investment.

2. Briefly describe how the risk should be measured in a speculative investment.