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Composite Ratings
Current Ratings
Country
Year Ago
February 2010
Current
January 2011
Political Risk
January 2011
Financial Risk
January 2011
Economic Risk
January 2011
Norway
90.00
90.50
88.5
46.5
46.0
Canada
82.75
82.75
86.5
40.0
39.0
Japan
80.00
81.00
78.5
44.0
39.5
United States
77.25
77.00
81.5
37.0
35.5
China, People’s Rep.
76.25
75.00
62.5
48.0
39.5
India
70.50
67.25
58.5
43.5
32.5
Turkey
63.50
63.25
57.0
34.5
35.0
Table 25.6
Current risk ratings and composite risk forecasts
Source: International Country Risk Guide, January 2011, Table 2B, The PRS Group, Inc. Used with permission.
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A. Composite risk forecasts
One Year Ahead
Five Years Ahead
Country
Current Rating
January 2011
Worst
Case
Best
Case
Risk
Stability
Worst
Case
Best
Case
Risk
Stability
Norway
90.5
88.3
93.3
5.0
83.3
92.8
9.5
Canada
82.8
78.3
84.3
6.0
75.3
86.5
11.3
Japan
81.0
77.0
84.3
7.3
72.5
87.5
15.0
United States
77.0
73.3
80.3
7.0
69.5
83.0
13.5
China, People’s Rep.
75.0
70.8
79.0
8.3
61.3
82.0
20.8
India
67.3
64.0
72.3
8.3
57.5
77.0
19.5
Turkey
63.3
57.8
67.5
9.8
53.8
71.5
17.8
B. Political risk forecasts
One Year Ahead
Five Years Ahead
Country
Current Rating
January 2011
Worst
Case
Best
Case
Risk
Stability
Worst
Case
Best
Case
Risk
Stability
Norway
88.5
88.0
92.0
4.0
86.0
89.5
3.5
Canada
86.5
83.0
88.5
5.5
81.5
89.5
8.0
Japan
78.5
75.5
84.0
8.5
72.0
88.0
16.0
United States
81.5
77.5
85.5
8.0
76.0
87.0
11.0
China, People’s Rep.
62.5
58.5
68.5
10.0
55.0
73.0
18.0
India
58.5
55.0
64.0
9.0
53.5
71.0
17.5
Turkey
57.0
52.5
63.5
11.0
51.5
69.0
17.5
Table 25.7
Composite and political risk forecasts
Source: A: International Country Risk Guide, January 2011, Table 2C; B: International Country Risk Guide, January 2011, Table 3C.
The PRS Group, Inc. Used with permission.
performance of the U.S. in this dimension was probably due to its exceedingly large gov-
ernment and balance-of-trade deficits, which put considerable pressure on its exchange
rate. Exchange rate stability, foreign trade imbalance, and foreign indebtedness all enter
PRS’s computation of financial risk. The financial crisis that began in August of 2008 was
a striking vindication of PRS’s judgment of assigning relatively low financial scores to the
U.S. and other major markets.
Country risk is captured in greater depth by scenario analysis for the composite mea-
sure and each of its components. Table 25.7 (panels A and B) shows 1- and 5-year worst-
case and best-case scenarios for the composite ratings and for the political risk measure.
Risk stability is based on the difference in the rating between the best- and worst-case
scenarios and is quite large in most cases. The worst-case scenario can move a country to a
higher risk category. For example, Table 25.7 , panel B, shows that in the worst-case 5-year
scenario, China and Turkey were particularly vulnerable to deterioration in the political
environment.
Finally,
Table 25.8
shows ratings of political risk by each of its 12 components.
Corruption (variable F) in Japan is rated better than in the U.S. In democratic accountability
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International
Diversification
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(variable K), China ranked worst, and the United States, Canada, and India best, while
China ranked best in government stability (variable A).
Each monthly issue of the International Country Risk Guide of the PRS Group includes
great detail and holds some 250 pages. Other organizations compete in supplying such
evaluations. The result is that today’s investor can become well equipped to properly assess
the risk involved in international investing.
This table lists the total points for each of the following political risk components out of the maximum points indi-
cated. The final columns in the table show the overall political risk rating (the sum of the points awarded to each
component) and the change from 2010.
A Government stability
12
G
Military in politics
6
B Socioeconomic
conditions
12
H
Religious
tensions
6
C Investment profile
12
I
Law and order
6
D Internal conflict
12
J
Ethnic tensions
6
E External
conflict
12
K
Democratic
accountability
6
F Corruption
6
L
Bureaucracy
quality
4
Country
A
B
C
D
E
F
G
H
I
J
K
L
Risk
Rating
January
2011
Change
from
December
2010
Canada
8.5
9.0
11.5 11.0
11.0
5.0
6.0
6.0
5.5
3.5
5.5
4.0
86.5
0.5
China, People’s Rep.
9.0
8.0
6.5
9.0
9.0
2.0
3.0
5.0
4.0
3.5
1.5
2.0
62.5
0.0
India
6.0
4.5
8.5
6.0
9.5
2.0
4.0
2.5
4.0
2.5
6.0
3.0
58.5
2
1.5
Japan
5.0
8.5
11.5 10.0
9.0
4.5
5.0
5.5
5.0
5.5
5.0
4.0
78.5
2
0.5
Norway
7.5 10.5
11.5 11.0
11.0
5.0
6.0
5.5
6.0
4.5
6.0
4.0
88.5
0.0
Turkey
8.5
5.5
7.5
7.5
7.5
2.5
2.0
4.0
3.5
2.0
4.5
2.0
57.0
0.0
United States
8.0
8.5
12.0 10.0
9.5
4.0
4.0
5.5
5.0
5.0
6.0
4.0
81.5
0.5
Table 25.8
Political risk points by component, January 2011
Source: International Country Risk Guide, January 2011, Table 3B, The PRS Group, Inc. Used with permission.
25.3
International Investing: Risk, Return,
and Benefits from Diversification
U.S. investors have several avenues through which they can invest internationally. The
most obvious method, which is available in practice primarily to larger institutional inves-
tors, is to purchase securities directly in the capital markets of other countries. However,
even small investors now can take advantage of several investment vehicles with an inter-
national focus.
Shares of several foreign firms are traded in U.S. markets either directly or in the form
of American depository receipts, or ADRs. A U.S. financial institution such as a bank will
purchase shares of a foreign firm in that firm’s country, then issue claims to those shares in
the United States. Each ADR is then a claim on a given number of the shares of stock held
by the bank. Some stocks trade in the U.S. both directly and as ADRs.
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There is also a wide array of mutual funds with an international focus. In addition to
single-country funds, there are several open-end mutual funds with an international focus.
For example, Fidelity offers funds with investments concentrated overseas, generally in
Europe, in the Pacific Basin, and in developing economies in an emerging opportunities
fund. Vanguard, consistent with its indexing philosophy, offers separate index funds for
Europe, the Pacific Basin, and emerging markets. Finally, as noted in Chapter 4, there
are many exchange-traded funds known as iShares or WEBS (World Equity Benchmark
Shares) that are country-specific index products.
U.S. investors also can trade derivative securities based on prices in foreign security
markets. For example, they can trade options and futures on the Nikkei stock index of 225
stocks traded on the Tokyo stock exchange, or on FTSE (Financial Times Share Exchange)
indexes of U.K. and European stocks.
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