Economic Globalization, International Portfolio Investments And Swaps Essay Sample

I believe that economic globalization brings both benefits and shortcomings to international portfolio investments, but is overall beneficial. On the one hand, economic globalization leads to expanded markets for companies who are now able to address the need of more customers than before. Because of this, companies can use economies of scale to their own benefits and generate better returns on capital. The globalization allows for a more efficient allocation of resources, for instance by manufacturing products in the area where the prices are the most competitive (e.g. European textile brands manufacturing clothes in Bangladesh). These are all benefits for international portfolio investments. On the other hand, globalization can also have a detrimental effect on international portfolios. As globalization increases, the world economies become more interrelated and interdependent. This effect increases the correlation of stock returns and therefore decreases the benefit of diversification. Because the different economies depend more on one another, they tend to have returns that are becoming more similar and thus diversification by investing internationally is becoming less efficient.
The major types of risks to be considered by a swap bank are counterparty risk (also referred to as default risk), interest-rate risks and currency risks. Counterparty risk refers to the possibility that a party may not honor its part of the contract. This is dangerous for the swap banks, both for earning their premium and their reputation for future business and should be managed. Interest-rate risks and currency risks can also cause large losses if unexpected variations in rates happen and cause risks for swap banks.
In order to provide international diversification to my portfolio, I would in priority look for:- ETFs/Trackers: when investing outside of your own market and circle of competence, an investor is faced with a disadvantage compared to local investors who know the market better than him. Therefore, understanding business models and consumer behavior can be harder and lead to costly mistakes. In this context, an ETF allows broad exposure to a basket of securities related to a particular industry (e.g. Indian industrial companies) without having to pick specific companies.- Convertible bonds: The diversification effect from convertibles is double. Firstly, it allows my portfolio to be invested in debt and not only in equities. Secondly, the convertible option allows to keep exposure to an increase in stock prices, which is particularly interesting for developing markets which are expected to display above average rates of returns in the near future.
A firm can engage in interest rate swaps for different reasons. The most common one is that interest rate swaps allow to diminish exposure/hedge against interest-rate changes. This can be used to manage cash flows. For instance, a financial institution having debt payments according to a variable rate can engage in a swap and receive fixed-rate cash flows if it believe the interest rates could increase. Swaps commonly target interest-rates but they can also focus be currency swaps, which in this case allow to limit exposure to a particular currency. This is interesting for companies having a large part of their revenues coming from one country (e.g. Russia). A last reason is pure speculation, where firms (and particularly hedge funds) can make profit betting on the future changes in interest rates. The necessary condition for interest-rate swaps is to find a counterparty for the swap, which is helped by swap banks.