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The risk of nations - currency

01/03/2015

We quantify currency risk by measuring the standard deviation of exchange rate changes. The Tunisian dinar and the U.S. dollar carries the lowest risk; the Congolese franc the highest. Currency risk is at the same level as economic growth risk and should be carefully considered when making investments outside the home country.

The method is the same as in our “The Risk of Nations” post. We took the annual exchange rate changes from 1970 till 2013 and calculated the standard deviation.*

An important conceptual innovation is that we measure all currencies’ volatility, including the U.S. dollar. That is, we don’t use the USD as the benchmark, but instead separate out the USD movement from other currencies movements.**

Below are the low currency risk countries, having excluded small countries. The list is eclectic. The United States demonstrates that being large and well diversified has its benefits. Panama shows the benefit of using the dollar when combined with good macroeconomic practices. Many countries on the list are considered high risk countries, but clearly this is not because of a volatile currency.

Bar Chart

The high-risk currencies below are more consistent. They include war-torn countries like Congo-Kinshasa and Iraq and mismanaged countries like Equatorial Guinea and Argentina, with only a few politically relatively stable countries like Brunei and Oman.

Bar Chart

The full list of countries are shown below. Note that the individual countries of the Eurozone are shown (they differ because of various levels of inflation). Eurozone s.d.=6.0%.

Go to the first installment in this series: Economic Risk

Go to the third installment in this series: Inflation Risk

Go to the fourth installment in this series: Total Risk

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* Technically, a bit more complicated than this.

** The method for doing this comes from our proprietary currency valuation model.