In last month's Riskwise I wrote about the potential of creating wealth by diversifying your investments. Generally, diversification creates more wealth, even if you have some investments that are big winners and some losers.
We also discussed some areas of due diligence you should think through, both focused internally on your personal and family goals, as well as the external analysis of that investment prior to investing.
Another area of risk is investment location, particularly if it's a country outside the U.S.
There are tools available to assist you in evaluating these risks. One is the opacity index.
Opacity is the lack of clear, formal, easily discernible and widely accepted practices in the world's capital markets.
In 2001, PricewaterhouseCoopers assembled a team of senior economists, survey professional analysts and distinguished advisers to explore the development of a worldwide opacity index.
The opacity index offers a composite “O-Factor” score for each of 35 countries. It's based on data in five different areas that affect capital markets. They are:
Corruption. There may be corruption in government bureaucracy that allows bribery or favoritism.
Legal system. The laws governing contracts and property rights may be unclear, conflicting, or incomplete.
Government macroeconomic and fiscal policies. Economic policies, fiscal, monetary and tax-related, may be vague or change unpredictably.
Accounting standards and practices (including corporate governance and information release). Accounting standards may be weak, inconsistent or unenforceable, thus making it difficult to obtain accurate financial data.
Regulatory regime. Business regulations may be unclear, inconsistent or irregularly applied.
A high degree of opacity in any of these areas will raise the cost of doing business.
The index also measures the risk premium attributable to opacity, which increases the cost of borrowing faced by countries due to opacity. This can also be a guideline for anticipated additional return on assets if one was to operate a business in that country.
Several countries listed in the index where there are significant investments by farmers in agricultural operations had opacity risk premium ratings of anywhere from 600 to more than 1,300 basis points.
For example, Brazil has an opacity index of 645, Mexico 308 and the U.S. zero. This can be interpreted as an increase in the cost of borrowing capital in these countries or an increase in your return on investment to offset these risks.
Based on this data, another way to assess your potential risk is to estimate that you need an additional 6-13% return to offset the risk caused by opacity in the areas listed above.
The opacity index doesn't take into account political unrest or uncertainty, which is difficult to estimate since that can change overnight, but does present an identifiable risk.
Understand Global Issues To Manage Risk
Have you heard of the CPI? Most would say yes, and it is the Consumer Price Index.
There is another CPI — the Corruption Perception Index. This index was published in 2002 by Transparency International. The list can be found at the following Web site:
The scores range from 10 (highly clean) to 0 (highly corrupt) There were 102 countries evaluated. The ranking was determined by 15 different surveys from nine independent institutions. It reflects the perceptions of business people and country analysts both resident and non-resident.
Understanding issues and concepts like these will become increasingly important in managing risk as we truly operate in a global food and fiber production, processing and distribution system.
For example, I just learned of Asoyia, an Iowa LLC owned by 25 Southeastern Iowa farmers who have developed products from specialty soybeans grown on their farms. Those products have reached foreign markets in less than a year.
This is a tremendous success story and I congratulate these farmers for their insight, tenacity and business acumen in accomplishing what they have in such a short time.
We truly operate in a global environment. Understanding more about the risks associated with doing business in different countries is becoming increasingly important.
Moe Russell is president of Russell Consulting Group, Panora, IA. Russell provides risk management advice to clients in 20 states. For more risk management tips, check his Web site (www.russellconsultinggroup.net) or call toll-free 877-333-6135.