Abstract
The significance of the Emerging Financial Markets (EFMs) is on a steady rise. They offer significant advantages for international investors such as high yields and broader chance of global portfolio diversification. However, there exist unique risks of investments in EFMs that should be carefully observed. This article is a summary those risks such as the risk of survival bias, non-normality of returns, the peso problem, contagion issues, commodity and natural resource curse among other problems that investors should pay attention to in EFMs. At the end, a top-down analysis approach is recommended in this article to those investors who will invest in EFMs.
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Notes
- 1.
“Emerging markets” is a term that The International Finance Corporation (IFC), a World Bank Group affiliate, began using in 1981 to describe a set of countries. Sometimes the term is used interchangeably with “emerging economies”. Although so close, emerging markets puts more emphasis on financial markets. When the term was first introduced into usage in early 1980s, The informal criterion for a developing country to be called as an emerging market economy was to have 30–50 listed companies with a market capitalization of $1 billion or more and an annual trading of $100 million or more. However, the two terms melted together over the years to become an inseparable alloy today. Influenced by the characterization of emerging economies by Julien Vercueil, today, it is widely believed that emerging economies share three common characteristics: (i) higher than less developed, less than developed economies per-capita income figures, (ii) high growth performance, (iii) economic liberalization and institutional transition. The big 10 emerging economies, as identified by Jeffrey E. Garten in 1998, a former Dean of the Yale School of Management and a former US Under Secretary of Commerce for International Trade, are Argentina, Brazil, China, India, Indonesia, Mexico, Poland, South Africa, South Korea and Turkey. IMF additionally classifies Bangladesh, Bulgaria, Chile, Colombia, Hungary, Malaysia, Pakistan, Peru, Philippines, Romania, Russia, Thailand, Ukraine and Venezuela as emerging economies.
- 2.
Sill, Keith, 2000, “Understanding Asset Values: Stock Prices, Exchange Rates, And the Peso Problem”, Federal Reserve Bank of Philadelphia Research Publication.
- 3.
Rietz T.A., 1988, “The Equity Risk Premium: A Solution”, Journal of Monetary Economics.
- 4.
Krasker W.S., 1980, “The ‘Peso Problem’ in Testing the Efficiency of Forward Exchange Markets”, Journal of Monetary Economics, 2, 269–276.
- 5.
Lewis K. K., 1991, “Was There a ‘Peso Problem’ in the Term Structure of US Interest Rates: 1979–1982?”, International Economics, 32, 159–173.
- 6.
For further discussion about the concept of national liquidity, see Hawkins and Turner (2000) on https://www.bis.org/publ/plcy08a.pdf
- 7.
Cantor R., Packer F., 1996, “Determinants and Impact Sovereign Credit Ratings”, FRBNY Economic Policy Review, 37–53.
- 8.
Erb C.B., Harvey C.R., Viskanta T.E., 1997, “Political Risk, Economic Risk and Financial Risk”, Financial Analysts Journal, 29–46.
- 9.
For a good explanation about the post-2008 criticisms regarding the rating agencies on the two sides of the Atlantic, see Council on Foreign Relations article on https://www.cfr.org/backgrounder/credit-rating-controversy
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Söylemez, A.O. (2018). The Unique Investment Risks of the Emerging Financial Markets. In: Dincer, H., Hacioglu, Ü., Yüksel, S. (eds) Strategic Design and Innovative Thinking in Business Operations. Contributions to Management Science. Springer, Cham. https://doi.org/10.1007/978-3-319-77622-4_19
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