Which of the following is a risk associated with foreign direct investment?

• A. Market risk
• B. Currency risk
• C. Political risk
• D. Operational risk

Answer: (C)

When you invest directly in another country, the biggest concern is how the host country’s actions and rules can affect your investment. Political risk covers the possibility that the government changes laws, taxes, or ownership rules, or even takes or restricts the investment through expropriation, nationalization, or currency controls. Such changes can directly reduce or eliminate expected cash flows and could threaten the viability of the project, which is why political risk is the primary risk associated with FDI.

Market risk relates to demand for the product in the market, currency risk to fluctuations in exchange rates, and operational risk to internal processes and management. These risks matter, but they are not as uniquely tied to cross-border investments as political risk, which stems from the sovereign environment in which the investment operates.