Sovereign Risk
Categories: Insurance
International investment mollifies portfolio risk, at least in theory (Two Legs Good, Diversification Better). But once you start playing with international currencies, international securities, and sovereign debt, you start dealing with extra risk from fluctuating exchange rates.
Sovereign risk is the particular risk investors face from governments in the international space.
For one, a nation’s central bank could set foreign exchange rules that can reduce the value of forex contracts. You could be sitting pretty on some forex contracts (foreign exchange contracts, i.e. currencies) that are all of a sudden worthless because a government decided to change how it values its currency globally.
Another part of sovereign risk comes from the potential of sovereign default. If you’ve got money tied up in another country’s debt, and then they default, you’ll be left out in the cold.
With multiple countries in the mix, international investing comes with a slew of risks...changing interest rates, price risk from inflation, exchange rates, default, and liquidity risk. All the risks. Anytime you’re invested in a foreign country’s assets or currencies, you’re facing some level of sovereign risk. Risky businesses.
