What is International Investments?
International Investments are those investments that are made outside the domestic markets and offer portfolio diversificationPortfolio DiversificationPortfolio diversification refers to the practice of investing in a different assets in order to maximize returns while minimizing risk. This way, the risk is kept to a minimal while the investor accumulates many assets. Investment diversification leads to a healthy portfolio.read more and opportunities for risk minimization. An investor can make international investments, thereby broadening his portfolio and expanding his horizon of returns. International investments also serve as a means of adding different financial instruments to the list when domestic markets are confined and limited by their variety.
Investors in one part of the world may find a variety of combinations of equity and debt instruments being traded in some other part of the world. International investments aim to assure investors of two probabilities; the counter of domestic market risks and the opportunities in foreign markets.
Types of International Investments
International investments types can be broadly classified into the following categories:
- Government Funds/Aids – These are funds that flow from one economy to the other with the purpose of aid or assistance to the economy as a whole. These transactions are carried out between the governments.
- Cross Border Loans – A loan arrangement where a government or institution seeks loan financing from a foreign bank is known as cross border loans. Cross-border financing became a popular financing vehicle because of its easier accessibility and fewer collateral restrictions.
- Foreign Portfolio Investment – When investors express investment interests in foreign companies, they are known as FPIs. These investors may not have long-term interests necessarily but can be traded easily through exchanges.
- Foreign Direct Investment – FDIsFDIsA foreign direct investment, or FDI, is a financial investment made by an individual or an organization in a business based in another country. In such investment, an organization or an individual owns a minimum of ten percent of the shares of a foreign firm.read more are investments made by foreign multinational companies in an economy. Foreign direct investment is more of a long-term concern and takes any form of investing from equities and debts to property and assets.
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Types of Financial Instruments for International investments
- American Depository Receipts – These are the most common form of investing internationally. An investor in the United States can trade in foreign stocks with the help of ADRsADRsADR (American Depository Receipts) is a financial instrument traded in US markets and are issued by US banks. ADRs are listed on the stock exchange and can trade like other stocks. read more. The stock will be listed on an American exchange and underlying being held by an American custodian bank.
- Global Depository Receipts – These are similar in nature as the ADRs. GDRsGDRsGlobal Depository Receipt is a receipt in which a security certificate is issued by financial intermediaries such as a depository bank, which purchases foreign securities, creates a bank certificate consisting of such shares, and then sells them on the stock exchange.read more have issued certificates for investors in more than one country to trade with foreign company stocks.
- Foreign Currency Convertible Bonds – A convertible bond that is issued in a foreign currency. A Euro bond issued by a US company in the UK is an example of FCCB wherein the principal repayment, and coupon payments will be made by the US company in Euro. However, the dividend payment upon conversion of the bond to equity will be made in US dollars.
Examples of International Investments
Some examples of International investments made across the globe:
- Indian economy saw a tremendous influx of foreign direct investment in recent years.
- FDIs grew from US$ 17 billion in 2013-14 to US$ 36 billion in 2017-18. This was mostly attributed to greater ease of doing business coupled with strengthening the Indian equity market.
- FDIs from Asia have reduced during the period 2015 to 2017. This was large because of the tax-related treaty between the Mauritius and Indian governments. The decline was a remarkable 30% during this period.
FDI fell by over one third during the global recessionGlobal RecessionGlobal recession refers to a condition when the countries across the globe experience an economic downturn for an extended period. It is a form of synchronized economic downfall encountered by the various interrelated economies throughout the world.read more period in 2009 but later recuperated in 2010.
Important Points to Note
- There is not much difference between FDIs and FPIs if both have long term interests. However, FDIs may seek ownership and voting rights provisions as well.
- With increasing technological advances and global reach, FPIs and FDIs have outplayed cross border financing in recent years. ‘
- FPIs can take several forms, most common being equity and mutual fundsMutual FundsA mutual fund is a professionally managed investment product in which a pool of money from a group of investors is invested across assets such as equities, bonds, etcread more.
- Foreign direct investment is a subset of international investment.
Advantages of International Investments
While the domestic market attracts investors in its own right international investments too have advantages.
- Access to opportunities existing in different markets that indigenous markets might not provide.
- Access to instruments that allow negating currency exchange risk and may guarantee greater gains.
- Offsetting risks pertaining to domestic markets and diversification of a portfolio.
Disadvantages of International Investments
- Political and economic turbulence can greatly affect such investments
- Accessibility to and availability of vital information related to foreign firms and markets is also a concern
- Complications are rendered by legislations and varying operating conditions of foreign markets.
Limitations of International Investing
Investments in international markets come with many drawbacks. Some of them are cited below:
- Currency Exchange Rate – Foreign investment at the outset is prone to the risk of currency exchange. Fluctuations in currency exchange can affect big transactions drastically. Currency exchange can affect an equity instrument such that the investor may find different exchange rates at the time of buy and sell.
- Credit Risk – Credit riskCredit RiskCredit risk is the probability of a loss owing to the borrower's failure to repay the loan or meet debt obligations. It refers to the possibility that the lender may not receive the debt's principal and an interest component, resulting in interrupted cash flow and increased cost of collection.read more can as much affect an international investment as domestic investment. Investors should carefully exercise trades with due prominence to credit ratings.
- Liquidity Risk – One of the biggest concerns of investing in international markets is liquidity riskLiquidity RiskLiquidity risk refers to 'Cash Crunch' for a temporary or short-term period and such situations are generally detrimental to any business or profit-making organization. Consequently, the business house ends up with negative working capital in most of the cases.read more issues. An investor sitting in the USA might not find buyers for his sale of securities in Japanese markets.
Conclusion
International investments have gained momentum since the start of this century. While these investments provide greater options, they also have their share of risks. Many investors in the developed economies invest in the growing economies to seek prospects of higher returns. Some investments are made into managed funds, exchange-traded funds, etc. with the purpose of diversification and expectations of modest returns.
There are many legal bodies (Bank for International SettlementsBank For International SettlementsBIS is the Bank for International Settlements. It aims to serve the central banks in promoting monetary and financial stability, fostering international cooperation, and acting as the bank for different central banks and facilitating their collaborations.read more being one) that oversee the transactions happening across the world. On the one hand, International investments boost foreign economies and bring in more influx of money; they are also responsible for scaling up market confidence and corporate credence.
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