How to Calculate Political Risk

Political risk is a weighty x-factor in determining the potential cost of an investment that involves overseas interests. The constant flux of geopolitical stability puts business interests on unstable ground in many parts of the world. To understand the potential losses threatened by political turmoil, such as a coup or war, you need to calculate the political risk involved in an international venture.

Difficulty: Moderately Challenging

Instructions

1. Identify all the political entities that can affect your business interest. This goes beyond the mere location of your business headquarters or market. Take into account all the players, from countries to terror organizations, that can affect your investment's market, supply chain and labor force.

2. Learn from history. Patterns of economic and political stability or instability don't determine future outcomes, but you can get a sense of what you're getting into by studying the record.

3. Use indexes to calculate political risk. Tools like the Volatility Index and the Consumer Price index offer a good way to calculate current political risk on the basis of historical trends. Don't be fooled though: analysis of this kind of data is labor intensive (and expensive) without being prophetic.

4. Depend on local knowledge. People on the ground have the best understanding of political risk in a given area, so find an expert who can offer information, analysis and a gut feeling.

5. Find a political risk specialist to help you calculate. A team at Citigroup developed the Geopolitical Risk Index, which can calculate risk fairly accurately. However, to apply the index to a specific context, you'll need an expert analyst to crunch numbers and draw conclusions. Given the very nature of political risk, hiring a good analyst is certainly worth the money.