Evaluating Domestic and Global Risks with an Eye on International Investment

International investing is one of many ways to diversify and grow a portfolio.  Foreign investment risks can be higher due to a countries conflicts, internal politics, and changes in international policies.

Currently, in many emerging markets, the political situation is being influenced by conflict in the Middle East, Chinese debt problems, American border policies, and global disputes over resources directly affecting international investment opportunities.

Have Recent Events in China Unnerved Foreign Investors?

The current debt payment issues with Evergrande Real Estate in China have created considerable discussion on emerging market exposure along with the recent regulations of time spent on computer games. You may have heard:

  • Companies that do business with Evergrande could incur significant losses, increasing bankruptcy rates and wreaking havoc for “around 171 domestic banks and 121 other financial firms,” says Mattie Bekink of the Economist Intelligence Unit. If banks are forced to lend less, companies will struggle to borrow money despite affordable rates.
  • Reduced internet time for gaming had caused a slight decrease of 3 to 4 percent in gaming stocks across companies like Tencent, Krafton, and NetEase is not an immediate problem. But a bigger concern may come later by impacting “the entire habit-forming nature of playing games at an early age.” Says Mio Kato, an analyst published on Smartkarma.

These events may unnerve foreign investors who typically place their money in China, but it’s virtually impossible to come to conclusions about portfolio allocations without gathering more financial and political details for evaluation and insight. Clearbrook’s management advice may differ from other consultants due to our broad perspective of global and domestic environments.

How Will Global Politics and Local Fiscal Risks Affect Your Investments?

Providers of investment performance have specific ways in which their models and algorithms monitor exposure, risk, and offsets to garner desired returns. Many years ago, US managers began expressing their holdings as contributions from international sales and subsidiaries. The percentage of revenue from foreign holdings for the S&P 500 has grown to 40 percent, depending on who you listen to, thanks to Apple, Google, and major financial and healthcare institutions. Investors are somewhat immune to where drug companies compared to other corporate products are made and sold. It is hard to know how global politics combine with local financial risks to affect various investments within your portfolio.

Many managers have realized that the best stocks in certain categories are truly global in nature. When you look at the top holdings in many emerging market funds, there is a high concentration of the top five to ten holdings, and then a smattering of smaller companies they hope will provide outsized gains. There is also a never-ending debate about how interest rates affect emerging market stocks.

A study by the International Monetary Fund shows that emerging and developing economies are nervous about rising interest rates because they face a slower economic recovery, longer waits for vaccines, and limited space for their own fiscal stimulus. When the reason for rising US interest rates is increasing US jobs, Covid vaccines, or higher inflation rates, most emerging markets experience stronger portfolio spreads on US debt. However, when interest rates are driven by expectations of more restrictive central bank actions, it can harm emerging markets.

Have Your Investments Failed to Flourish in the Last Three years?

Clearbrook looks at managers who have the skills and experience to invest globally and then monitors portfolio exposure across those accounts. This creates an emerging market exposure that varies, but we have clarity as to where and how to mitigate the risks and rewards.

The Evergrande situation is a portal into the markets in Asia. Recent political posturing raises many questions. Is China an integral position in a portfolio? Absolutely, but there are various ways to calibrate exposure and when you want to ramp up or moderate down. Right now, we are cautious and have set aside capital to move in a quarter or two once current dislocations are flushed from the system.

We advise international holdings to keep an eye on the news along with performance data to manage economic and political risks, looking at the country and companies operating within its borders. The result is understanding why investments are underperforming, finding suitable alternatives, and making adjustments to rebalance your portfolio going forward. We are already looking at the next horizon.

Are You Comfortable With Your Level of Risk?

Slower economic growth is due to a variety of causes and can lower the value of international equities and may affect various asset classes. However, managing risks is an integral part of maintaining a diversified portfolio. Even if you keep all of your investments in the US, you are subject to risks tied to decisions made in Washington DC. Specific economic and political risks that significantly impact your organization’s overall portfolio and goals are avoidable by employing a little creativity. This mitigates risks and even discovers new opportunities to offset them.

Well-informed portfolio decisions are made by continually monitoring against future problems regarding a country’s government, politics, and economy, looking for indicators of trouble such as the rise of different or new political parties, upcoming elections, or any new trade agreements. Our research technology creates automated reminders to track potential risks in key markets, so we are aware early on when problems arise. We advise on a variety of options and necessary actions to reduce exposure to riskier areas. We trust our due diligence and manager selection process which continues to source those active managers who add value for our clients. Contact Clearbrook for the tools and resources to inform the most challenging financial decisions.

Sources:

Christy, J., 2021. The Balance, Understanding and Managing Political Risk, https://www.thebalance.com/understanding-and-managing-political-risk-1979066

Hoskins, P. and Katie Silver, K., BBC News, China: What is Evergrande and is it too big to fail? https://www.bbc.com/news/business-58579833

Goh, Brenda, Reuters 2021. Chinese teens vent at new gaming limits as investors weigh impact on industry, https://www.reuters.com/technology/tencent-shares-fall-more-than-2-after-china-tightens-rules-young-video-gamers-2021-08-31/

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