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Political Risk Insurance

Political Risk InsurancePolitical risk insurance protects investors against the possibility that revolution or other factors related to political instability will cause their investments to decline in value, be stolen or be destroyed.

Other similar coverage options that have arisen which include war risk coverage and terrorism coverage.

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For example, businesses operating in Venezuela over the last several years have benefited from political risk insurance when facing the prospect of state socialization of natural resources, banking and other areas of the national economy. Several events call for political risk insurance to defray losses.

These politically risky events include terrorism, war and discontinuation of government; expropriation or confiscation, such as in the Venezuela example given above; or government repudiation of contracts for reasons not related to performance.

This is also used in situations like wrongful calling of on-demand guarantees: Including letters of credit, etc…business interruption for political reasons or for related security reasons; or an inability to repatriate funds or inability to transfer value from foreign currency.

Investors and Political Risk Insurance

Political risk insurance is mainly used by investors with a diverse portfolio of international investments. This specific form of business and investment protection is particularly valuable when operating in emerging and developing markets where continuous political stability is not guaranteed.

Political Risk Insurance Coverage

Political risk insurance can be used in virtually any situation where political upheaval is considered to be possible. Investors should take a medium-term view of their situation, since this insurance is difficult to acquire once political norms begin to deteriorate.

Types of Businesses That Use Political Risk Insurance

Businesses whose assets or capital would be difficult to protect or remove quickly in response to political upheaval are typical clients for political risk insurance. For example, construction firms frequently seek political risk protection. It’s an indication of the growing importance of this type of coverage that the need for political risk analysts is growing fast, as shown in this article.

Where Political Risk Insurance is Typically Used

Have Political Risk InsurancePolitical risk insurance can be applied to assets located in any jurisdiction. However, it is most commonly used in areas where the continuing ability of foreign-owned enterprises to operate freely in the national market cannot be guaranteed.

Locations typically covered by political risk insurance include:

  • China
  • Taiwan
  • South Korea
  • Latin America: Particularly Latin American “republics” that are exposed to long-term political instability due to regular elections featuring left-wing candidates. Countries with a “revolutionary tradition” are often considered suspect.
  • The Middle East: Particularly Egypt and other “Arab Spring” countries. Note that there are still several countries in the area that are generally regarded as stable and do not often attract political risk claims, such as Saudi Arabia and the UAE.
  • Africa: Particularly Sub-Saharan African nations.
  • Europe: Particularly countries that are considered to be contemplating a Euro exit, such as Greece, Spain and Portugal.

The ramifications of such behaviors are expected to be temporary but severe, leading to a recent spike in political risk protection in these areas.

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Factors That Indicate a Need for Political Risk Insurance

There are several indicators that might alert investors to the need for political risk insurance. These factors are usually known well in advance and may also help an investor to decide exactly what coverage foreign assets may need.

  • Economic Instability: Many traditionally stable markets are now undergoing significant economic hardships. This instability can translate to political demagoguery that might result in demonstrations, looting and other serious problems.
  • Political Risk Insurance PolicyPolitical Stability Accompanied by Corruption: Areas such as China and former Eastern Bloc countries have sometimes attracted a reputation for corruption. In these areas, it is possible to suffer repudiation of contracts without notice.
  • Political Instability in Neighboring Areas: Political instability can sweep through a region very quickly. Even when there is no significant risk of regime collapse, enhanced “security measures” can change the business landscape for existing investments.
  • Nationalist or Anti-Foreign Sentiments: Nationalist sentiment may result in direct violence that destroys assets and endangers personnel. In many cases, it may be necessary to spend additional funds on protection or discontinue projects entirely.
  • Fundamentalism or Terrorism: Countries that sponsor, engage in or suffer from terrorist activity are among the most unfriendly for foreign investment. Foreign holdings provide high-profile targets for agents of political violence, whatever their motivation.
  • War: Even relatively stable markets such as Israel suffer from some ambient threat of war. Short-term wars in which the country that hosts a company’s assets is the victor can still be extremely disruptive to operations in a given region.

Complex Versus Simple Political Risk Insurance

There are essentially two forms of political risk insurance based on the amount of business risk involved. Larger investments require a policy that is extremely detailed and specifically planned for a given situation. Smaller investments, on the other hand, are usually covered under the provisions of pre-existing contracts offered by each insurance company.

If an investment is particularly complex, or it would be challenging to recover or value precisely in the event of political instability, a customized policy is generally best.

This provides the highest level of protection for worst case scenarios.

Needless to say, political risk insurance is not generally backed by a financial institution within the area where the instability is expected to occur. Instead, investors generally seek protection from financial centers far from the conflict zone.

Issues to Consider When Selecting Political Risk Insurance

Political Risk Insurance For InvestorsAs with any insurance policy, it’s important to ensure that your assets will be completely protected against the widest range of eventualities that might cause them to depreciate. This can be a challenge when it comes to political risk, since situations are fluid. Here are some elements to look for in a political risk insurance policy:

  • Comprehensive Protection: Political risk insurance is generally issued for each category of risk separately. For example, separate policies will exist for political violence versus government expropriation or repudiation of contracts. Your policy should include, in the best judgment of yourself and your underwriter, all the protection relevant to your case.
  • Experience: Unlike other forms of insurance protection, many situations covered by political risk insurance are fairly clear cut. Still, you will want to deal with an organization that has extensive experience both in political risk generally and in the region in which you intend to do business.
  • Risk Calculation: All firms will calculate the level of political risk differently. Variance in their calculation may lead to higher insurance premiums. Before dealing with any firm, it should be possible to examine their risk calculation methodology and compare it to others.

What Clients Should Know About Political Risk Insurance

Political risk insurance has existed in its modern form for only a very short time. It is important to understand that this is a very new insurance offering which, at the same time, is rapidly growing in popularity and importance.

Why Political Risk InsuranceBecause this is the case , and because political risk insurance shows signs of becoming an ever more important part of a globalizing economy, investors need to be cautious and extensively compare policies before selecting one.

Around the world, political risk is increasing. This is true even in areas that once seemed impervious to political problems. As a dimension of the new, global business landscape, political risk should be handled sensibly by anyone who might be subject to it. Political risk insurance is the best means of protecting tangible assets overseas.

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