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Country Risk: Determinants, Measures and Implications - The 2015 Edition

97 Pages Posted: 15 Jul 2015 Last revised: 1 Aug 2015

Aswath Damodaran

New York University - Stern School of Business

Date Written: July 14, 2015

Abstract

As companies and investors globalize, we are increasingly faced with estimation questions about the risk associated with this globalization. When investors invest in China Mobile, Infosys or Vale, they may be rewarded with higher returns but they are also exposed to additional risk. When Siemens and Apple push for growth in Asia and Latin America, they clearly are exposed to the political and economic turmoil that often characterize these markets. In practical terms, how, if at all, should we adjust for this additional risk? We will begin the paper with an overview of overall country risk, its sources and measures. We will continue with a discussion of sovereign default risk and examine sovereign ratings and credit default swaps (CDS) as measures of that risk. We will extend that discussion to look at country risk from the perspective of equity investors, by looking at equity risk premiums for different countries and consequences for valuation. In the final section, we will argue that a company’s exposure to country risk should not be determined by where it is incorporated and traded. By that measure, neither Coca Cola nor Nestle are exposed to country risk. Exposure to country risk should come from a company’s operations, making country risk a critical component of the valuation of almost every large multinational corporation. We will also look at how to move across currencies in valuation and capital budgeting, and how to avoid mismatching errors.

Keywords: Country Risk, Currency Risk, Equity Risk Premiums

JEL Classification: G12, G31

Suggested Citation

Damodaran, Aswath, Country Risk: Determinants, Measures and Implications - The 2015 Edition (July 14, 2015). Available at SSRN: https://ssrn.com/abstract=2630871 or http://dx.doi.org/10.2139/ssrn.2630871

Aswath Damodaran (Contact Author)

New York University - Stern School of Business ( email )

Stern School of Business
44 West 4th Street
New York, NY 10012-1126
United States
212-998-0340 (Phone)
212-995-4233 (Fax)

HOME PAGE: http://www.damodaran.com

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