A year ago, a key concern for investors was the level of national debt inherent in many developed economies.
While this problem is far from being solved, markets appear to be slightly happier, mainly as a result of the wave of austerity packages sweeping across some of the more indebted European nations. Perhaps the surest sign of this is the news that PIMCO no longer considers UK gilts to be “resting on a bed of nitro-glycerine” and has even rated CDS on UK government debt as a “valuable opportunity.”
But there is a new set of concerns that are now regularly raised by fund managers in presentations and briefings, and they are political and geopolitical in nature. These risks comes in many shapes and sizes and the list of potential flashpoints includes the increasingly unstable and paranoid North Korean Government, a belligerent Venezuela, the risk of a failed state in Kyrgyzstan, Iran’s nuclear ambitions and even the potential resurrection of armed conflict in Ulster, as dissident republicans attempt to derail the Northern Ireland peace process.
This is before we face up to the real and growing threat of low level protectionism and national posturing – just witness the hysterical rantings of some US politicians when it comes to dealing with BP’s misadventure in the Gulf of Mexico.
There is also a not-unreasonable concern that ill-thought-through financial services regulation could restrict the flow of investment capital just when it is needed most.
In addition, investors should also consider whether politicians will have the stomach to see through some of the cuts they will have to make to public services. It is not hard to imagine some governments bowing to public pressure in order to lengthen their time in power, regardless of the long-term fiscal and economic implications of their actions.
And when it comes to public pressure, it is worth remembering many ordinary Chinese people see currency reform as bowing to Western pressure, and therefore a sign of weakness, regardless of the economic case for or against it.
Investors do best when they and the companies they invest in are able to trade freely within a relatively predictable political framework. But the economic crisis means this scenario is increasingly unlikely for some time to come.
While much of the outcome of political risk may feel black swan-like in its unpredictability, the fact is serious investors and those with their clients’ interests at heart need to at least factor this in to broader asset allocation decisions.
