From the CEO – September 2020

Christopher McKee, PhD, Chief Executive of The PRS Group, Inc.

Dear Clients,

Several years ago, political risk specialists began to make clear the diminishing separation between the pitfalls of investing in developed versus emerging markets.  For some time the risk premium/burden fell squarely on the shoulders of the sovereigns of the emerging world given their stretched balance sheets, currency mismatches on their external accounts, high probabilities of credit defaults and levels of social turmoil, unsteady policy process, surprise elections, and the odd coup.

Arguably, the bias in favor of developed markets really came to an end with the UK’s vote on Brexit, as the pundits almost universally forecast the referendum would result in a “Remain” vote.  Even today, four years after that tally, the deal looks shaky as the government essentially broke international law by defaulting on a part of the Withdrawal Agreement with the EU.  The move has done little to steady relations with Brussels and has given some new impetus to the ultimate goal of Scottish nationalists.  Combined with rising cases of C19, new (and often confusing) mobility and commercial restrictions, and inner turmoil with the Conservative Party, the goings on in the UK often seem ‘3rd-world-ish’ in comparison to how the country appeared even less than a decade ago.

The US hasn’t escaped the moniker I’ve applied to the UK.  Along with C19 infections spiking in areas that once appeared under control (e.g., the Midwest), worries over the outcome of the presidential vote, large-scale protests and incidents of violence, and legislative gridlock and partisan acrimony have produced an American political risk profile that hasn’t been this discouraging since the financial crisis of 2007-08.  Simply put, while we are becoming increasingly bullish on the US – and see a stronger USD as the year concludes – only a decisive (or progressively settled) election outcome and a full re-opening of the economy following the introduction of an effective and widely-accepted vaccine will put the country on a more stable trajectory, both politically and economically.

Turning to the ratings for the month, a number of highlights are worth mentioning. In the Americas, Argentina’s peso continues to display weakness as FX controls have been reinstated to preserve USD holdings.  Import coverage is at 10 months and deteriorating, although the president’s approval rating remains relatively high and creditors have backed the government debt restructuring plan.

In Peru, President Vizcarra survived an impeachment vote, largely due to the opposition’s fumbling.  Parliament will remain a dysfunctional entity, and elections are set for April of next year as the economy contracts by an expected 12% this year.

Over in Western Europe, the recent Italian plebiscite saw voters approve the reduction in the number of members of both houses of parliament, although the changes won’t go into effect until after the next national election.  Speaking of elections, the recent regional vote saw electors cast their ballots in favor of political continuity as populist candidates did not make the gains many had expected.  Unlike most of Europe, consumer confidence in Italy is holding steady for the time being, as the country has maintained a relatively effective lid on rising C19 cases.

In Africa, Zimbabwe’s exchange rate regime is gaining traction and confidence from market players. FX shortages are easing and fewer firms have expressed dismay over access to hard currency.

Mali appears to be making some headway to reinstating civilian rule following the recent coup, as Moctar Ouane, the former foreign minister, was named the new prime minister. The announcement of a civilian head of government was one of the preconditions set by ECOWAS for the removal of sanctions imposed after the military putsch.

Indonesia’s political risk profile remains relatively steady with FXR coverage at 12 months of imports, a jobless rate of around 9%, and increased confidence among the citizenry about the overall system of government.

Mongolia – by contrast – has seen pockets of discontent and ethnic turmoil over what it sees as an increasing and unwanted presence of China in the country’s school system.

As we forecast several months ago, the situation between Armenia and Azerbaijan over the contested Nagorno-Karabakh conflict zone has erupted, with troop and civilian deaths reported.  Russia and Turkey have inserted themselves into supporting roles in the conflict.

Finally, the Middle East despite the signing of the Abraham accord between Israel, Bahrain and the UAE (with other Arab nations to follow), the region has its own unsavory blemish in Lebanon, as the new caretaker government falters and the economy plunges further into disarray.  Social turmoil remains high, and the country’s FXRs can fund only the most vital of imports.  Talks with the IMF have faltered as vested interests present challenges to any kind of financing solution.

September was an impressive month for new and returning clients. On the former, we welcome a range of academic institutions, including University of Dundee, University of South Carolina, Old Dominion University, University of Sharjah, Pepperdine University, RWE Aktiengesellschaft, and Yuan Ze University. On the latter, we want to welcome back Merrill Corp, Fondo Latinoamericano de Reservas, University of Glasgow, United Bank Limited, MIT, Kamakura Corp, and Bailard Investment Management. Thank you so much for your continued support for the best quant-driven geopolitical risk rating and forecasting data anywhere!

Quid Periculum: Managing Political Risk in an Age of Uncertainty, co-edited and co-authored by Peter Marber (Harvard/Aperture Investors) and me, is soon to be released. The book includes such diverse topics as risk forecasting techniques, reliability measures, the impact of political risk on asset prices and sovereign debt workouts. Also featured is a special roundtable discussion by some of the world’s leading voices in the field on the future of political risk, who combine to address some of the challenges presented by globalization and COVID-19. For more information and to reserve a copy of the book, please contact Louis Carroll, PRS’ Director of Business Development, at lcarroll@prsgroup.com.

PRS’ partnership with ToggleAI – an algorithmic-driven trading and portfolio management platform, backed by some of the largest institutional investors globally, continues to flourish.  Our data will soon be available on Interactive Brokers and all major trading platforms.  As data partners, PRS joins Refinitiv and several others in this unique entity, which has been labelled “the medicine against confirmation bias” by professional traders and asset managers. We are very happy with our relationship with ToggleAI, as their professionalism and unique insights further underscore the future of geopolitical risk as only PRS can shape and define it!

We continue our early-stage discussions with the data analytics departments from several of our academic clients in the US, with the aim of providing the most comprehensive, AI-generated and back-tested data on geopolitical risk available anywhere. The initiative complements our work with ToggleAI as it affects geopolitical risk and actionable trades and portfolio management.  Stay tuned for more details in the months to come.

PRS Private Client Advantage, which offers new and existing clients a greater diversity of data offerings and regular updates, consultations, bundled products, and more, is – judging from client demand – even more essential.  Contact us for details.  With the fluidity of the ratings, this benefit for clients is especially important.

Using several ICRG indices as proxies for government effectiveness and control of corruption, a recent study by the IMF’s Middle East and Central Asia Department found that (inter alia), a 10% increase in social spending per capita could close 20–65% of the Human Development Index (HDI) gap between countries in the region and their global peers. (https://www.imf.org/en/Publications/Departmental-Papers-Policy-Papers/Issues/2020/09/25/Social-Spending-for-Inclusive-Growth-in-the-Middle-East-and-Central-Asia-49669)

Our ICRG data series continues to be the gold standard among the world’s leading academic researchers and multilateral organizations.  Using monthly data from 47 emerging and 21 developed stock markets and political risk from the ICRG, Suleman and Randal (“The Dynamics of Political Risk Ratings and Stock Market Volatility”) considered the effect of political risk on the mean and volatility of asset returns, as well as the level of aggregation of political and other risk measures to be used when estimating the effect on asset returns. Noting that “political risk as a composite is too coarse to find the impact on stock market return and volatility,” the authors found ICRG indicators “Government Stability, Socioeconomic Conditions, and Investment Profile” were most significant in capturing important dimensions of the political environment on returns and price movements.

Thanks for your continued support, and please contact us if we can be of any assistance.

Christopher McKee, PhD
Chief Executive

 

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