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FRM Part I · FRM Exam Part I · Country Risk: Determinants, Measures, and Implications

An analyst values a company with operations in several countries. Which approach to country risk in the cost of equity best reflects that exposure differs across firms in the same country?

Weight country risk premiums by the share of revenues or operations in each country. Firms in the same country can have very different exposure, and incorporation location does not reflect where cash flows are earned, so an operations-based weighting better captures country risk.

  1. AAdd the same country risk premium to every firm in the country regardless of operations
  2. BWeight country risk premiums by the share of revenues or operations the firm derives from each countryCorrect
  3. CUse only the country where the firm is legally incorporated
  4. DIgnore country risk because it is diversifiable

Explanation

Exposure depends on where the firm operates, so premiums are weighted by revenue or operating footprint. Using the country of incorporation ignores actual exposure. Applying the same premium to all firms ignores differing exposure.

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