Table 1.

2 Types of Possible Risks in developed and Emerging Markets

Type of Risk Description Affected Investment

Country risk the risk that a foreign currency will not be available All types including
to allow payments due to be paid because of a lack Foreign investments
of foreign currency or the government rationing
what is available.
Credit risk the risk that a counterparty may not pay amounts Fixed Income
owed when they fall due security
Market risk the risk of loss due to changes in market prices. All types
This includes interest rate risk, foreign exchange
risk, the credit risk associated with lending to the
government itself or a party guaranteed by the
government (not to be confused with country risk).
Sovereign risk the credit risk associated with lending to the Mostly bonds
government itself or a party guaranteed by the
government (not to be confused with country risk).
Political risk the risk that there will be a change in the political All types especially
framework of the country. smaller foreign
countries
Industry risk the risk associated with operating in a particular All types
industry.
Reputational risk the risk that the reputation of an organization will Limited to
be adversely affected. organisation policy
Accounting risk the risk that financial records do not accurately Any types especially
reflect the financial position of an organization. in a less stable
foreign country
Liquidity risk the risk that amounts due for payment cannot be All types
paid due to a lack of available funds.
Business risk the risk of failing to achieve business targets due to All types
inappropriate strategies, inadequate resources or
changes in the economic or competitive
environment.
Operational risk the risk of loss due to actions on or by people, All types
processes, infrastructure or technology or similar
which have an operational impact including
fraudulent activities.
Legal/regulatory risk the risk of non-compliance with legal or regulatory Limited the law and
requirements policy of the country
Systemic risk the risk that a small event will produce unexpected All types
consequences in local, regional or global systems not
obviously connected with the source of the
disturbance.
Environmental risk the risk that an organization may suffer loss as a All types
result of environmental damage caused by
themselves or others which impacts on their
business.
 Table 1.1 presents illustrate the milestones of risk analysis and evolution of risk measures
Period Key events Risk measure used
Pre-1494 Fate or divine providence altered through prayers and sacrifice beleifs
1494 The coin tossing puzzle by Luca Paccioli Guts feeling
1654 Blaise Pascal and Pierre de Fermat solve Paccioli’s puzzle, lay Computed probabilites
the foundation for Probability estimation and theory
1662 John Graunt developed the Life table using data on birth and Life table
death in London
1711 Jacob Bernoulli’s Ars Conjectandi develops the law of Sample-based probability
numbers providing the basis for sampling from large
populations.
1738 Abraham de Moivre suggests derives the normal distribution Normal distribution
as an approximate to binomial and Gauss & Laplace refine it.
1763 Thomas Bayes publish Treatise on how to update prior beliefs Bleeding new ideas with
as new information is acquired. old ideas
1800s Insurance business develops, and it come an actuarial measure Expected loss
of risk, based upon historical data
1875 Francis Galton describes regression toward the mean. When regression toward the
one makes any decision based on the expectation that matters mean
will return to “normal”, one is employing the notion of
regression to the mean
1900 Louis Bachelier examines stock and option price on Paris Price variance
exchange and defends his thesis that price follow a random
walk
1952 Harry Markowitz demonstrates mathematically why putting all Variance added to
your eggs in one basket is an unacceptable risk strategy and portfolio
why divarication is important, igniting an intellectual
movement that revolutionized corporate finance, and business
decisions around the world
1961- Working upon the foundations of diversification and modern Capital Asset Pricing
1966 portfolio set by Harry Markowitz, Sharpe, Lintner and Mossin Model (CAPM) Market
independently develop the Capital Asset Pricing Model Beta
(CAPM) which is a model used to determine a theoretically
appropriate required rate of return of an asset, to make
decisions about adding assets to a well-diversified portfolio.
1976 Stephen Ross derive the arbitrage price model multiple risk Factor Beta
factors are derived from the historical data
1980 Value-at-Risk (VaR) is disseminated. VaR is a measure of the portfolio theory
risk of loss for investments. It is the maximum value that a
portfolio or company can lose during a given period of time, at
specified level of confidence. This also allows one to measure
the optimal capital required to protect companies or portfolios
from the anticipated and unanticipated losses.
1986 Macroeconomic variable examined as potential market risk Macroeconomic beta
factors leading to multi-factor model.
1992 Kent D. Miller in the paper named “A Framework for Proxies
Integrated Risk Management in International Business”
published in the Journal of International Business studies,
suggests a framework for categorizing the uncertainties faced
by firms operating internationally and outlines both financial
and strategic corporate risk management responses
2009 (ISO) publishes ISO 31000 – Risk management – Principles ISO 31000
and guidelines, provides principles, framework and a process
for managing risk that can be used by any organization,
regardless of its size, activity or sector
Table 1.2 The Disciplines, Risk, and Knowledge Forms Applied to the Unknown that Determine Disciplinary
Epistemological Definitions of Risk

How risked is viewed Knowledge applied to the unknown discipline

Risk is calculable phenomenon calculation Mathematic and logic
Risk as an objective reality Principle postulate and calculations Science and Medicine
Social science:
Risk as a cultural phenomenon Culture Anthropology
Risk as a social phenomenon Social construct or frameworks Sociology
Risk as a decision phenomenon away Decision-making principle and postulate Economics
of securing wealth or avoiding loss
Risk as a fault of conduct and Rules Law
judicable phenomenon
Risk as a be behavioral and cognitive Cognition Psychology
phenomenon
Risk as a concept Terminology and meaning Linguistics
History and the humanities
Risk as a story Narrative History
Risk as an emotional phenomenon Emotion The Arts (literature, music
poetry theatre art etc.
Risk as an act of faith Revelation Religion
Risk as a problematic phenomenon Wisdom Philosophy
Type of Risk Description Affected Investment

Country risk the risk that a foreign currency will not be available All types including
to allow payments due to be paid because of a lack Foreign investments
of foreign currency or the government rationing
what is available.
Credit risk the risk that a counterparty may not pay amounts Fixed Income
owed when they fall due security
Market risk the risk of loss due to changes in market prices. All types
This includes interest rate risk, foreign exchange
risk, the credit risk associated with lending to the
government itself or a party guaranteed by the
government (not to be confused with country risk).
Sovereign risk the credit risk associated with lending to the Mostly bonds
government itself or a party guaranteed by the
government (not to be confused with country risk).
Political risk the risk that there will be a change in the political All types especially
framework of the country. smaller foreign
countries
Industry risk the risk associated with operating in a particular All types
industry.
Reputational risk the risk that the reputation of an organization will Limited to
be adversely affected. organisation policy
Accounting risk the risk that financial records do not accurately Any types especially
reflect the financial position of an organization. in a less stable
foreign country
Liquidity risk the risk that amounts due for payment cannot be All types
paid due to a lack of available funds.
Business risk the risk of failing to achieve business targets due to All types
inappropriate strategies, inadequate resources or
changes in the economic or competitive
environment.
Operational risk the risk of loss due to actions on or by people, All types
processes, infrastructure or technology or similar
which have an operational impact including
fraudulent activities.
Legal/regulatory risk the risk of non-compliance with legal or regulatory Limited the law and
requirements policy of the country
Systemic risk the risk that a small event will produce unexpected All types
consequences in local, regional or global systems not
obviously connected with the source of the
disturbance.
Environmental risk the risk that an organization may suffer loss as a All types
result of environmental damage caused by
themselves or others which impacts on their
business.
Managing risk result in greater reruns. The understanding of risk have changed and is
developed over time. It is radically different from what it was in the past and it is expected to
keep changing.

Our ability to manage risk effectively is dependent firstly on being able to identify potential risks, and secondly
being able to measure those risks. This is easier said than done. For some areas, credit and market risk for
example, there are well developed industry standard tools and techniques but as we move across the spectrum
of risk, the degree of difficulty increases and, as yet, there is no industry standard for measuring risks across risk
categories.

We have explained some of the common tools in use but to a large extent we will need to rely on simple
measures, such as aggregate exposures and trend analyses, in emerging markets because of the quality of data
available. Plus, there is less confidence in the predictive value of models in volatile environments. Blindly
following an inappropriate model is as risky as having no model at all.

Going forward there is a need to continue to develop theories and models but much can be done to improve
the quality of risk measurements simply by ensuring that things such as data standards are clearly defined, and
that systems and incentives are in place to improve the quality of data flowing through to decision makers. As
we rely more and more on data for measuring risks, and technology enables us to look into risk areas from afar,
this will become more and more important.

Risk management starts with setting the right strategy. strategy setting must involve risk and must not be
dictated from the top. A robust risk framework is needed to support the strategy. The more aggressive the
strategy the more important the risk framework becomes. Historically, risk has been managed from the centre
(command and control) but this is not the most appropriate model in an increasingly volatile environment.

Decentralization will help risk management operate more effectively at the front line, but controls are still
needed, as are better quality people. The types of risk management frameworks adopted will vary according to
size and complexity of the organization. Whatever the type of risk framework adopted there are a number of
key elements that need to be addressed, including checks and balances, policies and processes, limits and roles
and responsibilities.

There are many tools and techniques for managing risk but often they simply transform the risk rather than
eliminate it and, in many, create new risks. Doing it right will lead to satisfactory rewards but failure to address
risk effectively will lead to losses and eventual demise, the only question being whether death is quick or slow.
Building a robust framework is not sufficient. People issues and risk culture must be addressed. The right strategy
supported by a robust risk framework which is implemented well will reduce the probability of an organization
being hit by unexpected events and will help minimize the impact of any adverse events. It will not eliminate the
risk of fraud.
Emerging markets are defined as those countries which have started to grow but have yet to reach a mature
stage of development and where there is significant potential for economic or political instability. This definition
covers a broad range of countries but excludes those which are at the bottom of the development prospect list.

There is no typical emerging market, but they have a variety of characteristics in common which, one way or
another, make them weak or vulnerable to internal or external shocks. Given this large number of countries it is
useful to group them together or rank them using a variety of methodologies depending on the purpose. Despite
their various weaknesses that emerging markets exhibit, there has been progress in a number of areas in the
past 10 to 20 years

Improvements have resulted from changes internally, particularly attitudes to outside investors, but also due
to markets maturing in developed countries and costs of production rising. Pull and push factors have combined
to increase the level of interest in emerging markets as target markets as well as production bases. This increased
level of interest has been facilitated by technology, communication and transportation improvements.

The Asian crisis, amongst others, has highlighted the degree to which fundamental change has, or has not,
happened in the various markets. It has helped accelerate some positive developments, but the pressure has
been reduced recently, which gives cause for concern. There is now general recognition that inward investment
is a key to increased growth and that to attract investment change is needed. To investors this is good news,
but apparent high levels of rewards only come with higher levels of risk. Understanding those risks up front is
necessary to avoid expensive mistakes.

Understanding culture is vital if risk is to be managed effectively in emerging markets. The need for this has
changed significantly as we have moved from a colonial command and control environment to one where
persuasion, rather than power, is required to get results. We have defined culture as “the way a group of people
solves problems". Culture drives behaviour, it is what we learn not what we are born with. We are all subject to
a number of cultural influences – tribal, region, organization, etc.

When faced with problems we may experience conflicts between different cultural influences. How these
conflicts are resolved will be determined by the relative strengths of the various cultural influences. The stronger
cultural influences are likely to be those we have been exposed to longest – nation, family, religion.
Organizational cultures are more transient and less deep seated, unless particularly strong.

Culture operates at a number of levels – basic assumption, norms and values, and explicit products. There are a
number of dimensions that can be used to explain cultural differences such as whether groups or individuals are
more important, whether position is influenced more by achievement or ascription, and the relative importance
of the past, the present and the future in determining actions.

The combination of these dimensions will define, say, a national culture but not everyone will act or behave in
the same way. Beware of stereotyping people. Within organizational cultures are determined by the actions and
deeds of senior management. Strong cultures will develop where these are clear and there is consistency, but
weak where what they do conflicts with what they say. Strong organizational cultures take a long time to develop
but can be undermined very quickly.

Where the strategy of an organization is at odds with market opportunities the organizational culture will
determine how this is resolved. Actions taken by managers which go against cultural norms or values are likely
to provoke a reaction. Sometimes this is obvious and immediate. In other cases it is subtle and may not be
evident for a long time. Western influences are becoming more pervasive as satellite TV and internet access
spreads, causing aspirations to rise and leading to conflicts with traditional values. Those exposed to developed
country cultures through periods of study are also driving change in cultural values.

When faced with problems we may experience conflicts between different cultural influences. How these
conflicts are resolved will be determined by the relative strengths of the various cultural influences. The stronger
cultural influences are likely to be those we have been exposed to longest – nation, family, religion.
Organizational cultures are more transient and less deep seated, unless particularly strong. Culture operates at
a number of levels – basic assumption, norms and values, and explicit products.

There are a number of dimensions that can be used to explain cultural differences such as whether groups or
individuals are more important, whether position is influenced more by achievement or ascription, and the
relative importance of the past, the present and the future in determining actions.

The combination of these dimensions will define, say, a national culture but not everyone will act or behave in
the same way. Beware of stereotyping people. Within organizational cultures are determined by the actions and
deeds of senior management.

Strong cultures will develop where these are clear and there is consistency, but weak where what they do
conflicts with what they say. Strong organizational cultures take a long time to develop but can be undermined
very quickly. Where the strategy of an organization is at odds with market opportunities the organizational
culture will determine how this is resolved.

Actions taken by managers which go against cultural norms or values are likely to provoke a reaction. Sometimes
this is obvious and immediate. In other cases, it is subtle and may not be evident for a long time. Western
influences are becoming more pervasive as satellite TV and internet access spreads, causing aspirations to rise
and leading to conflicts with traditional values. Those exposed to developed country cultures through periods
of study are also driving change in cultural values.

Conclusion

The world is not static but changing rapidly and at an ever- increasing pace. Increased interconnectedness means
that we face new risks every day, not least in emerging markets. To respond to the increased levels of risk, risk
management disciplines have spread across many industries and there are now many more risk professionals.
Despite the growth in the number of risk professionals, responsibility for managing risk lies firmly with line
management, risk professionals provide support. The types of risks that businesses face is more pervasive and
require cross-border co-operation to solve. The ability of governments to deliver is, however, limited and not
improving. There are many drivers of change, some are creating new opportunities in emerging markets
particularly in technology. Looking forward we can expect that current trends such as globalization, increased
complexity, greater volatility, and so on will continue but there will undoubtedly be some unexpected events.
To help managers of risk, tools and techniques will continue to develop and will encompass more of the risk
areas that are difficult to quantify today.