Investing 101: Emerging Market Risk Factors You Should Consider


Investors around the world are always on the lookout for potentially profitable gigs.  Aside from the most popular investments and markets, there are always other options for them.  And one of their options are emerging markets.

Emerging markets written in huge block letters among other smaller words

What are emerging markets?

Emerging markets, also known as developing markets, are markets that are on their way to being advanced economies. 

There isn’t really an official list where you can find which countries are considered emerging markets.  But various banks and international organizations like the World Bank and World Trade Organization have their own lists of such markets.

Emerging markets give you the chance to get attractive returns as well as international diversification for investors.  These markets also have their inherent risks that you must always consider.

Here are the risks you should consider when investing in emerging markets.

Political Risks

Political risks are those that result from a change in government or policies in the government that have potential negative impact on an investment.  Political risks are broad and include events like legislative changes, investment legislation, coups, terrorism, war, trade agreements, and political elections.

The longer your investment time horizon, the more political risks you have to withstand.  This is because it becomes more difficult to foresee political risks further out in the future.  That means more uncertainty for you as an investor.  You must then have higher risk tolerance. 

You can mitigate or minimize political risks but it would take a lot of work.  You can do that by diversification, or by investing in multiple countries.  If you do it that way, a negative political news will only affect one country in your portfolio.

Currency Risks

Also called foreign exchange risks, currency risks relate to the risk that a certain movement in the exchange rate will negatively impact the investor’s return.  Emerging markets are quite vulnerable to exchange rate volatility.  That means they present a larger currency risk than other more stable currencies.

You can try to fight this risk by using hedging mechanisms.  However, such things aren’t always available on emerging markets.  You can typically accomplish hedging by using futures contracts, forwards contracts, or options. 

Meanwhile, other investors do not really try to mitigate this risk just because they think it’s too expensive, or because they believe that the exchange rate will move in their favor.  An investing strategy that involves no hedging mechanism is also called naked position.  And it can result to larger potential gains and losses than a covered position that uses hedging.

Liquidity Risks

This refers to the risk that an investment may be difficult to exit and convert into cash.  This is present when the number of buyers and sellers in market is too low.  This leads to wider bid-ask spreads.  Within illiquid markets, investors may have to continually lower their selling price until they come upon a willing buyer.

If you want to mitigate liquidity risks, you should be looking for investments that have significant as well as consistent trading volume.  Investors may also want to understand the way that foreign exchanges operate, especially the role of market makers.

Institutional Risks

This one refers to the risks that relate to standards and regulations of capital markets within emerging markets.  For instance, emerging countries’ capital markets may have less stringent accounting standards, weak enforcement of insider trading, and less strict regulatory oversight.

Institutional risks are difficult to mitigate, but you can still take some steps.  You must educate yourself regarding the regulation, accounting, and insider trading environments in the markets where you want to invest.  This can help you avoid investing in markets that you think are too risky.  It’s advised to go with large, reputable, well-regulated auditing firms.


Emerging markets can give you attractive growth potential and diversification opportunities.  Meanwhile, you should study and understand the increased risks associated with investments into emerging markets.

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