tag:blogger.com,1999:blog-8152901575140311047.post7815531265221028374..comments2024-03-28T12:49:46.624-04:00Comments on Musings on Markets: January 2016 Data Update 3: Country Risk and PricingAswath Damodaranhttp://www.blogger.com/profile/12021594649672906878noreply@blogger.comBlogger8125tag:blogger.com,1999:blog-8152901575140311047.post-60314383831449051202016-02-04T15:23:54.200-05:002016-02-04T15:23:54.200-05:00Thanks for sharing your analysis and update! I was...Thanks for sharing your analysis and update! I was wondering why you use the local currency sovereign rating (instead of the foreign currency one). Is this to avoid increasing the country risk for capital controls or political decisions (given Moody's note on local v foreign currency "A rating gap (a notching between a government’s LC and FC bond ratings) is now only applied in those cases where there is (1) limited capital mobility; and (2) a government which either faces constraints in terms of external liquidity, or, in exceptional cases, shows a material and observable distinction between its ability and willingness to repay creditors in LC versus FC, or vice versa.") Thanks! Anonymousnoreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-4291076705779386702016-01-18T12:16:50.417-05:002016-01-18T12:16:50.417-05:00Hi Professor,
Does currency matter here? For exam...Hi Professor,<br /><br />Does currency matter here? For example, an investor that uses USD will invest in equities in Brazil (BRL). How we account for that?<br /><br />Thanks,<br /><br />LuizLuiznoreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-65052278560074372402016-01-14T13:03:42.034-05:002016-01-14T13:03:42.034-05:00Hi Professor Damodaran
If I was looking to deter...Hi Professor Damodaran <br /><br />If I was looking to determine how much assets to allocate to private equity funds in Asia vs. N. America and wanted to use the country risk premium, how would you go about calculating that specifically for PE funds? How would you calculate a return target based on the additional risk that you take in Asia vs. N. America? <br /><br />What is the best way to risk adjust returns from both US and Asia so I can make them comparable for asset allocation purposes. What sort of risk metrics should I be considering. <br /><br />Many thanks.Anonymousnoreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-78760549219962476492016-01-13T05:52:23.385-05:002016-01-13T05:52:23.385-05:00Marko,
A friendly suggestion. Don't use the wo...Marko,<br />A friendly suggestion. Don't use the word surely unless you are absolutely certain, and since there is little in finance that is that certain, don't use it in finance. In fact, both your surelies are not so sure. First, country risk is diversifiable only if it is relatively uncorrelated, something that may have been true in the 1980s, but not anymore. There is a systematic country risk factor, where worldwide shocks reverberate across countries and the CRP is my estimate of the exposure to that factor. On the sovereign risk question, you are right that sovereign risk is not equity risk, but can you point me towards one other market measure that I can use instead? (I really am willing to switch, if I can see something better). The sovereign yield is a classic problem with bonds in general. If your point is that bond yields understate country risk, there is an easy solution. Use the CDS. You do talk about an alternative to incorporating country risk into discount rates. I am open again to suggestions but tif by adjusting cash flows for country risk, you just mean incorporating bad scenarios into the expected cash flow, that is still an expected cash flow and not risk adjusted. Aswath Damodaranhttps://www.blogger.com/profile/12021594649672906878noreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-5023179445248715702016-01-13T02:43:57.105-05:002016-01-13T02:43:57.105-05:00Dear Professor Damodaran
Your work is, as always,...Dear Professor Damodaran<br /><br />Your work is, as always, interesting and thought provoking.<br /><br />Your thoughts on the below country risk considerations would be appreciated.<br /><br />1. Diversifiable vs. non-diversifiable<br /> a. By including this into the discount rate, the assumption is that ‘country risk’ not diversifiable.<br /> b. From the perspective of the ‘fully diversified portfolio’ surely country risk is diversifiable?<br /> c. How can, for example, expropriation be classed as ‘systematic’ and included into the discount rate?<br /><br />2. ‘Sovereign Risk’ = ‘Country Risk’<br /> a. You method and calculation seem to make the assumption that ‘Sovereign Risk’ = ‘Country Risk’.<br /> b. Surely the risk of a sovereign defaulting on its bonds and the country risk factors we have to take into account when doing a valuation of, for example - a chicken soup factory in that country, are not the same.<br /> c. Even though I agree there is a correlation in general, I can think of many ‘country risk’ factors that are important that are either completely uncorrelated to ‘sovereign risk’ or even in some cases negatively correlated to it.<br /> <br />3. ‘Contractual Cash Flows’ = ‘Probability Weighted Cash flows’<br /> a. You measure the ‘sovereign risk’ looking at yield-to-maturity on bonds (or alternatively CDS spreads)<br /> b. The implicit assumption here is that the promised / contractual cash flows used in the calculation are equal to the expected cash flows (probability weighted cash flows). <br /> c. Surely this is not the case (maybe it is close for the US but definitely not for Greece or Russia for example).<br /> d. Valuations deal with ‘expected’ / ‘probability weighted’ cash flows so we have to be consistent when constructing the discount rate.<br /><br />Obviously ‘country risk’ is a real consideration that has to be taken into account. Because of the above I cannot see how, given the financial theory available to us, we can include it into the discount rate. I understand it’s easy and convenient to use this method when compared to the alternative but surely that is not sufficient reason?<br /><br />The alterative unfortunately is difficult and requires a lot of work. Identify and quantify the actual list of factors that impact and asset in the country it operates (strikes, expropriation, change in regulation, political upheaval, etc.., etc...) and model this in the cash flows.<br /><br />Thanks in advance,<br /><br />Marko<br /><br />Markohttps://www.blogger.com/profile/15576160313428349258noreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-76491926562023126862016-01-11T10:29:06.647-05:002016-01-11T10:29:06.647-05:00Very timely given the chatter about Aramco of Saud...Very timely given the chatter about Aramco of Saudi Arabia possibly looking to sell a minority stake to the public. I just wonder with all the turmoil in the middle east if the ERP for that country might be understatedAnonymousnoreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-64946663453975102592016-01-10T09:44:44.430-05:002016-01-10T09:44:44.430-05:00Just with one look on the map: Netherlands are an ...Just with one look on the map: Netherlands are an outlier. The market cannot be that cheap or are these zoombie banks and insurers?Martinhttps://www.blogger.com/profile/08749838473979475080noreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-91193877635379221852016-01-10T04:06:14.751-05:002016-01-10T04:06:14.751-05:00Such great content should be shared. Could you ple...Such great content should be shared. Could you please add a "shareit" plugin or similar so we can get the word out more to our communities?<br /><br />Thank you,<br /><br />JeffAnonymousnoreply@blogger.com