Thank you for another thoughtful paper. Having spent nearly three decades investing across emerging and frontier markets, I found it both rigorous and immensely practical.
Reading it, however, left me wondering whether sovereign analysis is approaching the same inflection point that corporate valuation experienced several decades ago.
Corporate valuation gradually evolved from focusing primarily on tangible assets toward recognizing that much of a firm's value resides in intangible assets—brand, talent, intellectual property, organizational culture and networks. I wonder whether sovereign analysis now faces a similar evolution.
Most country-risk frameworks ultimately ask one question:
How risky is this country today?
That is exactly the question lenders and fixed-income investors need answered.
Long-term equity investors, however, are often asking something different:
What is the probability that this country becomes materially better—or materially worse—than today's measures imply?
Those are related questions, but they are not the same.
The greatest investment opportunities I have encountered rarely emerged because a country became objectively "safe." They emerged because its trajectory changed before conventional measures recognized it. Vietnam illustrates this well. Twenty-five years ago it was unquestionably high risk, but the more important story was that its institutions, policies and global integration were steadily improving. Investors who focused only on the level of risk missed the direction of change.
That experience has led me to wonder whether sovereign analysis should distinguish more explicitly between the level of risk and the trajectory of risk.
More broadly, traditional frameworks seem naturally organized around downside—default, inflation, corruption, conflict and political instability. They measure these exceptionally well. But countries also possess upside. Those beginning from very low expectations often have the greatest convexity, where relatively modest improvements in governance, credibility or connectedness can produce disproportionate increases in equity values and private investment. Fixed-income investors primarily participate in the reduction of downside; equity investors participate in the creation of upside.
Perhaps the biggest omission, however, is that countries are still analyzed largely through their liabilities rather than their assets. We carefully measure debt, deficits and reserves, yet devote far less attention to intangible national capital: institutional competence, legitimacy, policy credibility, connectedness, human capital and, perhaps most importantly, the capacity to adapt. Singapore's long-term success is difficult to explain without these assets, just as Iran's unrealized potential is difficult to understand without considering the costs of prolonged isolation.
Finally, I wonder whether countries behave less like balance sheets and more like living systems. Institutional quality, legitimacy, confidence and capital flows reinforce one another through powerful feedback loops. Lebanon's collapse illustrates how quickly negative loops can accelerate. Successful reform stories demonstrate that positive loops can compound just as powerfully.
None of this diminishes the importance of your framework. On the contrary, I think it answers one question exceptionally well.
I simply wonder whether long-term investors increasingly need a complementary framework that asks a different one:
Not simply, "What is the probability this country defaults?"
But, "What is the probability this country adapts?"
Very relevant points you raised. Though it's highly unlikely anyone will develop the positive framework you propose that works on a global scale across all countries.
I think it can be done, but the problem lies in the assumptions that any model needs to address this challenge, and the heavy reliance on history to understand a specific country's trajectory, a multidisciplinary approach, fun for sure!
It ‘can’ and has been done very successfully. Primary diligence and local networks though are essential (i.e. the edge cannot come from a bi-annual data dump)!
Forgive me for asking something this small.. but I noticed you wrote 'work-in-process' in the introduction and 'work-in-progress' in the conclusion. Maybe just a typo. But from someone who has taught inventory accounting for decades, I kept wondering if the first one was the accountant's WIP slipping out :)
For what it's worth.. I started my career as an analyst in South Korea about twenty years ago, and I spent so many hours on your data pages trying to get WACC right. So reading this now, freely, still feels a bit unreal. I just wanted to say thank you!
This is great! Thank you for sharing this publicly! Not only the table with ERPs is very practical, but you also explain the logic and methodology very well. It is very useful for assessing investment projects outside of core US/Europe.
Thank you, Professor Damodaran. Your focus on pragmatism over rigid theory is exactly why this is so valuable. It reminds us that we can't just blindly buy 'any' international market. For everyday investors building diversified global portfolios, your breakdown of the four tangible risk factors (especially corruption and legal systems) makes country risk easy to conceptualize. It turns abstract global macro noise into clear, logical metrics that anyone can understand before choosing where to allocate their capital
the 'you cannot hide' point lands harder once you weight by revenue instead of listing. i've held US-listed names that were 60% emerging market sales, and their drawdowns tracked the local currency far more than the S&P. domicile tells you almost nothing. the CDS spread on the countries they actually earn in told the real story.
Damodaran's country risk work is one of those things everyone downloads and almost nobody changes their allocation because of. The model is public. The courage to use it isn't.
<p>Anyone actually pricing assets in frontier markets knows the uncomfortable truth here — half the inputs to the country risk model are essentially guesses dressed up as data points. Arguably the best framework available, which mostly tells you how unsolved the problem still is.</p>
Professor Damodaran,
Thank you for another thoughtful paper. Having spent nearly three decades investing across emerging and frontier markets, I found it both rigorous and immensely practical.
Reading it, however, left me wondering whether sovereign analysis is approaching the same inflection point that corporate valuation experienced several decades ago.
Corporate valuation gradually evolved from focusing primarily on tangible assets toward recognizing that much of a firm's value resides in intangible assets—brand, talent, intellectual property, organizational culture and networks. I wonder whether sovereign analysis now faces a similar evolution.
Most country-risk frameworks ultimately ask one question:
How risky is this country today?
That is exactly the question lenders and fixed-income investors need answered.
Long-term equity investors, however, are often asking something different:
What is the probability that this country becomes materially better—or materially worse—than today's measures imply?
Those are related questions, but they are not the same.
The greatest investment opportunities I have encountered rarely emerged because a country became objectively "safe." They emerged because its trajectory changed before conventional measures recognized it. Vietnam illustrates this well. Twenty-five years ago it was unquestionably high risk, but the more important story was that its institutions, policies and global integration were steadily improving. Investors who focused only on the level of risk missed the direction of change.
That experience has led me to wonder whether sovereign analysis should distinguish more explicitly between the level of risk and the trajectory of risk.
More broadly, traditional frameworks seem naturally organized around downside—default, inflation, corruption, conflict and political instability. They measure these exceptionally well. But countries also possess upside. Those beginning from very low expectations often have the greatest convexity, where relatively modest improvements in governance, credibility or connectedness can produce disproportionate increases in equity values and private investment. Fixed-income investors primarily participate in the reduction of downside; equity investors participate in the creation of upside.
Perhaps the biggest omission, however, is that countries are still analyzed largely through their liabilities rather than their assets. We carefully measure debt, deficits and reserves, yet devote far less attention to intangible national capital: institutional competence, legitimacy, policy credibility, connectedness, human capital and, perhaps most importantly, the capacity to adapt. Singapore's long-term success is difficult to explain without these assets, just as Iran's unrealized potential is difficult to understand without considering the costs of prolonged isolation.
Finally, I wonder whether countries behave less like balance sheets and more like living systems. Institutional quality, legitimacy, confidence and capital flows reinforce one another through powerful feedback loops. Lebanon's collapse illustrates how quickly negative loops can accelerate. Successful reform stories demonstrate that positive loops can compound just as powerfully.
None of this diminishes the importance of your framework. On the contrary, I think it answers one question exceptionally well.
I simply wonder whether long-term investors increasingly need a complementary framework that asks a different one:
Not simply, "What is the probability this country defaults?"
But, "What is the probability this country adapts?"
Very relevant points you raised. Though it's highly unlikely anyone will develop the positive framework you propose that works on a global scale across all countries.
I think it can be done, but the problem lies in the assumptions that any model needs to address this challenge, and the heavy reliance on history to understand a specific country's trajectory, a multidisciplinary approach, fun for sure!
It ‘can’ and has been done very successfully. Primary diligence and local networks though are essential (i.e. the edge cannot come from a bi-annual data dump)!
well, share your experience in another article then! :)
Great comment!
Succinct thank you
Forgive me for asking something this small.. but I noticed you wrote 'work-in-process' in the introduction and 'work-in-progress' in the conclusion. Maybe just a typo. But from someone who has taught inventory accounting for decades, I kept wondering if the first one was the accountant's WIP slipping out :)
For what it's worth.. I started my career as an analyst in South Korea about twenty years ago, and I spent so many hours on your data pages trying to get WACC right. So reading this now, freely, still feels a bit unreal. I just wanted to say thank you!
This is great! Thank you for sharing this publicly! Not only the table with ERPs is very practical, but you also explain the logic and methodology very well. It is very useful for assessing investment projects outside of core US/Europe.
Thank you, Professor Damodaran. Your focus on pragmatism over rigid theory is exactly why this is so valuable. It reminds us that we can't just blindly buy 'any' international market. For everyday investors building diversified global portfolios, your breakdown of the four tangible risk factors (especially corruption and legal systems) makes country risk easy to conceptualize. It turns abstract global macro noise into clear, logical metrics that anyone can understand before choosing where to allocate their capital
the 'you cannot hide' point lands harder once you weight by revenue instead of listing. i've held US-listed names that were 60% emerging market sales, and their drawdowns tracked the local currency far more than the S&P. domicile tells you almost nothing. the CDS spread on the countries they actually earn in told the real story.
Keep up the good posts
Damodaran's country risk work is one of those things everyone downloads and almost nobody changes their allocation because of. The model is public. The courage to use it isn't.
<p>Anyone actually pricing assets in frontier markets knows the uncomfortable truth here — half the inputs to the country risk model are essentially guesses dressed up as data points. Arguably the best framework available, which mostly tells you how unsolved the problem still is.</p>
I think for the corruption article, you meant lower scores mean higher corruption.