Understanding Global Risks for Investment Professionals
The study of how geography (e.g., location, resources, climate) affects politics and international relations.
The risk that arises from actions between international actors (like governments or corporations) that disrupt the normal flow of international relations, trade, or capital.
Geopolitical risks can have wide-ranging effects at two main levels:
Impacts can include changes in economic growth, shifts in interest rates, and increased market volatility.
Risks can affect a portfolio's performance and its suitability for an investor's risk tolerance and time horizon.
Governments and national leaders who directly control a country's national security and resources.
Enterprises, corporations, and other organizations that participate in global political, economic, or financial issues.
Relations between nations can be either cooperative or competitive. Political cooperation refers to the degree to which countries agree on shared rules and laws for their interactions. While non-cooperation is uncommon, the level of cooperation varies.
Governments prioritize issues, with survival-critical matters like national security at the top, followed by economic interests.
The motivations and political cycle of a nation's leaders heavily influence their willingness to cooperate.
Well-established institutions promote internal and external stability, making a country a more reliable partner.
A country's geophysical resources (habitable land, climate, food, water) play a key role in its power and interests.
The process of creating common rules and protocols for products and services is a form of economic cooperation.
Cooperation can be driven by shared cultural values. Soft power is the ability to influence other nations through attraction and persuasion rather than force.
Globalization is the increasing integration of individuals, firms, and nations on a global scale. It is a defining feature of the modern world economy.
Globalization manifests through:
For non-state actors (like corporations), the primary motivations are increased profits and access to new resources and markets.
Globalization is not without its challenges:
Several key institutions provide the framework for the global economy.
Promotes global monetary cooperation, exchange stability, and balanced trade growth. It provides temporary financial assistance to member countries and helps manage systemic financial risks.
Focuses on reducing poverty and promoting sustainable growth in developing countries. It funds development projects, provides technical assistance, and encourages good governance to foster business growth.
Regulates and promotes free trade. It works to eliminate trade barriers, settles trade disputes, and provides a framework that facilitates the growth of multinational corporations.
We can classify the geopolitical stances of countries into four main categories:
Characterized by little or no foreign trade or financing. The domestic industry is dominated by state-owned companies. (e.g., North Korea).
A hegemonic country is a regional or global leader that exerts significant control and influence over other countries' resources and policies. (e.g., The United States in the post-Cold War era).
Characterized by broad economic cooperation and the harmonization of rules among many countries. (e.g., The European Union).
Cooperation between two countries, involving political, economic, or financial agreements. Regionalism (cooperation among a few neighboring countries) lies between bilateralism and multilateralism.
Actors use a variety of tools to achieve their geopolitical objectives. These can be used to support either cooperative or non-cooperative stances.
Actions that directly or indirectly impact a state's resources, people, or borders. These can be active (military intervention) or inactive (strategic alliances).
Includes multilateral trade agreements, common markets, common currencies, but also non-cooperative tools like nationalism, voluntary export limits, and domestic content requirements.
Actions that use financial means to support a stance. Examples include limiting or promoting foreign investment and restricting or supporting foreign currencies.
A risk associated with a specific, known future date (e.g., an election).
A sudden, unexpected risk that appears with little warning (e.g., a terrorist attack).
A risk that evolves over a long period of time (e.g., climate change, demographic shifts).
Investors should examine geopolitical risks across three dimensions:
| Dimension | Description |
|---|---|
| Likelihood | The probability that the risk will actually occur. |
| Velocity | The speed at which the risk, if it occurs, will impact a portfolio. |
| Impact | The size and nature of the effect on a portfolio. High-impact risks require more in-depth analysis. |
Evaluating how a portfolio would perform under different potential geopolitical situations or global conditions.
Monitoring specific indicators, market levels, data releases, or events (signposts) that signal a particular risk is becoming more or less likely.