Managing Geopolitical Risk In Investment Decision Making
14
1 Managing Geopolitical Managing Geopolitical Risk In Investment Risk In Investment Decision Making Decision Making Campbell R. Harvey Duke University and National Bureau of Economic Research Sixth Global Fixed Income Capital Markets/Investment Management Workshop/Retreat July 20-24, 2002 Aspen, Colorado
description
Sixth Global Fixed Income Capital Markets/Investment Management Workshop/Retreat July 20-24, 2002 Aspen, Colorado. Managing Geopolitical Risk In Investment Decision Making. Campbell R. Harvey Duke University and National Bureau of Economic Research. The Risk Setting. - PowerPoint PPT Presentation
Transcript of Managing Geopolitical Risk In Investment Decision Making
1
Managing Geopolitical Risk In Managing Geopolitical Risk In Investment Decision MakingInvestment Decision Making
Campbell R. HarveyDuke University
andNational Bureau of Economic Research
Sixth Global Fixed Income Capital Markets/Investment Management Workshop/Retreat
July 20-24, 2002Aspen, Colorado
2
The Risk SettingThe Risk Setting
• Unfortunately, this case is on the program because of September 11.– Risk management advances have been focused
largely on market risks, i.e. VaR models– Now, there is significant interests in managing
GPR
3
The Risk SettingThe Risk Setting
• Big picture issues– Is GPR “diversifiable” or “systematic”?– Uncertainty versus risk?– How does GPR fit into an investment
management strategy?
4
The Risk SettingThe Risk Setting
• Some reading:– Campbell R. Harvey, 1994, “National Risk and Global Fixed
Income Allocation,” with C. Erb and T.E. Viskanta, Journal of Fixed Income.
– Campbell R. Harvey, 1996, “Political Risk, Financial Risk and Economic Risk,” with C. Erb and T.E. Viskanta, Financial Analysts Journal.
– Campbell R. Harvey, 1996, “The Influence of Political, Economic and Financial Risk on Expected Fixed Income Returns,” with C. Erb and T.E. Viskanta, Journal of Fixed Income.
– Campbell R. Harvey, 2000, “The Drivers of Expected Returns in International Markets,” Emerging Markets Quarterly.
5
The Risk SettingThe Risk Setting
• The U.S. has become much more risky– High sensitivity to some GPRs– Disagreement on strength of economy– Financial information less credible
6
U.S. Has Become a Riskier Global InvestmentU.S. Has Become a Riskier Global Investment
60
65
70
75
80
85
90
95
100
Equally-weighted world G-7xUS Switzerland United States
ICRG Political Risk
7
U.S. Has Become a Riskier Global InvestmentU.S. Has Become a Riskier Global Investment
60
65
70
75
80
85
90
95
100
Equally-weighted world G8-xUS Switzerland United States
ICRG Political Risk
8
U.S. Has Become a Riskier Global InvestmentU.S. Has Become a Riskier Global Investment
Finland 94.5 Australia 88.0 Hong Kong 80.0Luxembourg 94.5 United Kingdom 88.0 Italy 80.0Ireland 92.5 Belgium 86.5 Cyprus 79.0Switzerland 92.5 Canada 86.5 Czech Rep. 78.5Sweden 92.0 Germany 86.5 Taiwan 78.5Netherlands 91.0 Malta 86.0 United States 78.5Denmark 90.5 Japan 85.5 Poland 78.0Iceland 90.5 Bahamas 84.5 Namibia 77.5Austria 89.5 Spain 83.0 Bahrain 77.0Norway 89.5 Hungary 81.0 Chile 77.0Singapore 89.0 Brunei 80.5 Greece 77.0New Zealand 88.5 France 80.5 U.A.E. 77.0Portugal 88.5 Slovenia 80.5 Slovak Rep. 76.0
Risk Ratings July 2002
9
U.S. Has Become a Riskier Global InvestmentU.S. Has Become a Riskier Global Investment
Risk Ratings May 2001
Netherlands 96.5 Portugal 90.0 Chile 81.0Finland 95.0 Norway 90.0 Slovak Rep. 81.0Luxembourg 95.0 Singapore 89.5 Uruguay 81.0Denmark 93.5 Germany 88.0 Brunei 80.5Iceland 93.0 Japan 88.0 France 80.0Sweden 93.0 Australia 87.0 Qatar 80.0Switzerland 93.0 Belgium 87.0 U.A.E. 80.0United Kingdom 92.5 Malta 87.0 Hong Kong 79.5Canada 91.0 Bahamas 84.5 Poland 79.5Ireland 90.5 Costa Rica 83.5 Botswana 79.0New Zealand 90.5 Italy 83.0 Cyprus 79.0Austria 90.0 Spain 82.0 Czech Rep. 79.0United States 90.0 Slovenia 81.5 Greece 79.0
10
R2 = 0.2976
-10%
0%
10%
20%
30%
40%
50%
0 10 20 30 40 50 60 70 80 90 100
II Rating
Ave
rage
ret
urns
U.S. Has Become a Riskier Global InvestmentU.S. Has Become a Riskier Global Investment
Higher risk means equity investors require a higher rate of return
11
• Regression equation implies an increase in the medium-term risk premium of 240bp– This helps explain the recent decline in the
equity market– This helps explain the recent behavior of the
U.S. dollar– This helps explain the slow down in real
investment (hurdle rates are up)
U.S. Has Become a Riskier Global InvestmentU.S. Has Become a Riskier Global Investment
12
• Previous CIO “fallen on the sword” because of failure to have detailed contingency plans for GP events – like September 11
• Diamond characterized as “geopolitical planning void”
Diamond Asset Management CompanyDiamond Asset Management Company
13
• First attempt to develop a strategy
Diamond Asset Management CompanyDiamond Asset Management Company
14
U.S. Has Become a Riskier Global InvestmentU.S. Has Become a Riskier Global Investment
60
65
70
75
80
85
90
95
100
Jan-
84
Jan-
85
Jan-
86
Jan-
87
Jan-
88
Jan-
89
Jan-
90
Jan-
91
Jan-
92
Jan-
93
Jan-
94
Jan-
95
Jan-
96
Jan-
97
Jan-
98
Jan-
99
Jan-
00
Jan-
01
Jan-
02
ICRG-P Switzerland ICRG-P United States
