Currency devaluations, failed economic plans, regulatory changes, coups and other national financial "shocks" are notoriously difficult to predict and may have disastrous consequences for global portfolios. Indeed, these characteristics often define the difference between investment in the capital markets of developed versus emerging economies.
Research on emerging markets has suggested three market features: high average returns, high volatility and low correlations both across the emerging markets and with developed markets. Indeed, the lesson of volatility was learned the hard way by many investors in December 1994 when the Mexican stock market began a fall that would reduce equity value in U.S. dollars by 80% over the next three months.
The most direct consequence of unemployment is financial impoverishment. In a study of unemployed adults by Latalski et al., (Poland, 2003), most participants claimed that their income did not allow them to cover their basic needs. Managing a very limited budget, they had to give up buying new clothes, more expensive food and toilet items as well as spending money on cultural and leisure pursuits. They were unable to use paid medical services and to meet household payments deadlines. These consequences are borne not only by the unemployed themselves but also by their families. Those with school children had to cut their expenditures on education and in extreme cases the children were unable to attend school. These results indicate that poverty has a negative impact on many different spheres of family life and in the long run it has a negative impact on the life of the whole society. Poverty is both an immediate problem in terms of inadequate living standards and a long term issue regarding educational attainment, health status and job opportunities (Reynolds and O’ Dwyer, Ireland, 2002).
Food insecurity is associated with health problems for young, low-income children. Ensuring food security may reduce health problems, including the need for hospitalisation (Cook et al., USA, 2004). Economic inequality has been hypothesised to be a determinant of population health, independent of poverty and household income. Maternal education, basic housing conditions, access to health services, ethnicity, fertility, maternal age and diet composition were independently associated with stunting in young children (Larrea and Kawachi, Ecuador, 2005). Shields and Tanner (Australia, 2004) found that the costs for food and parking for one accompanying parent of a child to hospital can exceed Aus$200 per week. For parents of children admitted for long periods or those on low incomes and/or social security benefits, this would be a large proportion of their weekly income. In Ireland, an exceptional needs payment can be made in such circumstances.
As investment portfolios have become increasingly diversified across national boundaries, research interest has intensified in improving our understanding and assessment of sovereign risk and ratings (see, inter alia, Erb et al., 1996; Harvey and Zhou, 1993). Brooks, Faff, Hillier and Hillier (2004) argue that a key information event, such as a change in a sovereign rating, might instigate substantial re-weighting of international portfolios, particularly if such a re-rating resulted in a change in investment grade status. Accordingly, they examine the impact of sovereign rating changes upon the aggregate stock market, thereby building upon earlier work which examines the impact of individual company rating changes upon stock and bond prices (see, for example, Holthausen and Leftwich, 1986; Goh and Ederington, 1993; Dichev and Piotroski, 2001).
A recent paper by Boot, Milbourn and Schmeits (2006) highlights the importance of considering the way in which rating changes come to pass. Ratings are often put under review prior to a change, and during this process, known as a credit watch, the credit rating agency (CRA) is involved in gathering additional information and monitoring the rated firm/government. Fitch Ratings, a leading credit rating agency, indicate that at the corporate level such information gathering would involve dialogue between the CRA analysts and senior executives, while at the sovereign level dialogue would typically be between the CRA analysts and —key policymakers and senior representatives of various public sector institutions, such as the finance ministry and the central bank…“.
