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Risk Parameters
In performing its functions Expat Bonds is exposed to various types of risks affecting its performance. The major risks to be taken into consideration by investors, when they invest in Expat Bonds units are as follows:
Credit risk
The credit risk is essential for the fund's assets. Its impact on the price of the financial instruments and the value of the assets is key, especially in terms of a global crisis. This is the risk of the issuer (issuing company), respectively the collateral provider, being unable to meet their obligations, namely to pay the principal and/or interest due within the established time limit. In the case of securities redemption agreements, the Fund may incur losses, if the counterparty to the agreement with "Expat Bonds" is unable to honour its securities redemption obligation, as long as profits from the sale of the collateral are lower than the redemption price, where the said price is fixed. When specific securities have a credit rating, credit risk includes the possibility of lowering of the credit rating of the securities in which the Mutual Fund has invested.Standard and Poor's ratings and Moody's and Fitch ratings are an internationally recognized barometer for securities credit risk. Yet, even the said ratings are not flawless as they are minimum event-based and do not reflect all possibilities.
We expect that the major part of Expat Bonds investments will be in securities with no credit rating. The Asset Management Vehicle will try its best to reduce the credit risk carried by investment in securities with no credit rating through credit analysis, investment diversification and observation of political and economic events and trends. There is no guarantee that the said measures will prevent losses.
Credit risk is also involved in the relations with counterparties to stock exchange transactions and over-the-counter market transactions, there being two types of this particular kind of credit risk, namely counterparty risk and settlement risk. With the former there is the possibility of the counterparty to over-the-counter market transactions not honouring his obligations. This risk is minnimized by the Fund, given the fact that it invests predominantly in financial instruments traded on regulated markets. Settlemet risk is the possiblity for the Fund not receiving money or financial instruments from the counterparty on the settlement date, after the Fund has honoured its obligations to the said counterparty under the transaction.
Market risk
The market price of the financial instruments in which the Fund invests may fluctuate as a result of changes in the economic and market environment, central banks' monetary policy, issuers' business activity, the sector in which the issuer operates and the demand and supply on the securities market. There are certain moments when stock prices on the market (stock exchange) may fluctuate significantly. This market risk affects the Fund's NAV, which will also fluctuate as a result of the changes in the market prices of stocks and other securities, the Fund has invested in. Not all stocks traded on a market (stock exchange), and not all stock markets change their prices in the same direction at a given moment and there a various factors influencing the market price of certain stock (for example, financial statements, stating that the issuing company's profits have decreased; loss of a major client; a lawsuit is filed against the company involving a claim for a large amount of money; change of the regulatory framework of an industry/sector). Not all factors of the kind can be predicted.
The Asset Management Vehicle can reduce, yet it cannot completely eliminate, the effect of investment price fluctuations, through diversification of the Fund's portfolio. To diversify stock investments, the Asset Management Vehicle plans to invest in stocks issued by companies belonging to various economic sectors, as well as to stick to the investment limits imposed on investment in stocks and other financial instruments of a single company.
Market risk may take the shape of interest, currency, price, liquidity and inflation risk.
Interest risk
Interest risk is the possibility of a decrease of security prices as a result of interest rate increase. In general, interest rate increase has an unfavourable effect on both fixed yield securities (bonds) and stocks. There are various methods of limiting interest risk through the use of derivative instruments such as futures, swaps and options.
Currency risk
Currenct risk is most of all related to investment instruments in the Fund's portfolio, denominated in foreign currency. These instruments's BGN value may fluctuate as a result of currency exchange rate fluctuations. Such fluctuations would affect Expat Bond's NAV and its profits. As the lev is currently pegged to the euro, this risk is considered to be relatively low. The instruments denominated in BGN are not exposed to currency risk. The planned geographic positioning of the Fund's investments is aimed at currency risk differentiation. The Asset Management Vehicle can conclude certain transactions to hedge the currency risk (for example, currency options, currency purchase and sale under spot and forward transactions), which transactions also carry certain risks.
Price risk
This is the risk of decrease in the value of the investment in a security in the event of unfavourable changes in market price levels as a result of unfavourable events related to the specific issuers' activity and performance, as well as to capital market trends (short-term or long-term market adjustments as a result of changes in valuation and investor expectations).
Liquidity risk
Liquidity risk is the Fund's inability to meet its short-term and long-term obligations. It is related to certain conditions making it hard or impossible for the Asset Management Vehicle to sell securities owned by the Fund at a favourable price. The fund's liquidity risk will be managed through maintenance of active balance positions that will enable the Asset Management Vehicle to meet all its obligations at any moment at a reasonable price taking a minimum risk, and will also prevent any hasty sale of assets, which would result in losses and/or missed benefits. The Asset Management Vehicle is pursuing a strict policy as regards the maintenance of a minimum liquid amount in accordance with legal requirements and the Fund Rules.
Inflation risk
Inflation risk is the possiblity of general price increase in the economy resulting in decrease in the purchasing power of the local currency. Rising inflation can reduce significantly or completely the yields of Fund unitholders, as a result of which investors in Expat Bonds may not earn any real income or earn insignificant real income. Over the last years, as a result of the currency board and the implementation of restrictive fiscal policy, inflation in Bulgaria has been kept relatively low and it is expected to stay like that in the forthcoming years.
Risks related to the use of derivatives
Management risk
Derivatives are highly specialized instruments and their use requires an understanding of both the underlying asset and the mechanism of action of the derivative itself. The complexity of the derivatives requires adequate resources for transactions monitoring, analysis of specific risks and the ability to predict prices.
Leverage effect Risk
An adverse change of the price of the underlying asset, rate or index may lead to loss of an amount higher than invested in derivative. Certain derivatives have a potential for unlimited loss.
Erroneous derivative evaluation risk
Many derivatives are complex instruments and their evaluation is often subjective. Consequently, Expat Bonds may suffer losses in the purchase of overpriced derivatives.
Basis risk in futures contracts
This risk occurs when the characteristics of the hedging futures contract differ from those on the position to be hedging. The risk is the uncertainty whether the spread between spot price and futures price will increase or decrease during the hedged transaction.
The Asset Management Vehicle monitors the effectiveness of the hedging, applying the principles of International Accounting Standards 39
Operational risk
It is related to the possibility of incurring losses because of flaws and omissions in the organizational system, underqualified staff, unfavourable external non-financial events, including legal risk. "Expat Asset Management" defines a short-term and a long-term strategy for the management of operational risks occurring in the process of managing Expat Bonds activities and portfolio. The said strategies are described in the Fund's Valuation and Risk Management Rules.
Concentration risk
The possibility of loss triggered by wrong diversification of clients, namely exposure to groups of related clients, clients belonging to the same economic sector, performing the same activities or located in the same geographical area. Exposure to such risk may result in significant losses. Concentration risk can also involve large indirect credit exposures. This type of risk is managed through adherence to investment restrictions, described in detail in the Fund's Valuation and Risk Management Rules.
System risks
System risks depend on general economic and market fluctuations. The Fund cannot influence system risks, yet it takes them into consideration and acts accordingly. Examples of system risks are as follows:
Macroeconomic risk
This is the possibility of macroeconomic instability in the countries in which the Fund invests. Taking this possibility into consideration, the Asset Management Vehicle focuses its attention on developing countries, whose markets are relatively stable as a result of EU accession, robust economic growth, foreign investment growth, and success in curbing inflation. The Asset Management Vehicle observes on a regular basis the macroeconomic conditions in the regions where it invests and manages actively the Fund's protfolio, acting in accordance with occurring changes.
Interest risk
This is the possibility of interest rates rising to such levels that lead to decrease in economic growth through decrease in credit lending. All time low interest rates over the past years in the world economy, the Eurozone, and in Bulgaria in particular, have had a very favourable effect on the country's economic development. Monetary policy tightening in the Eurozone that started in 2004 will have an impact on economic growth and the Asset Management Vehicle observes closely developments pertinent to that risk.
Currency risk
This type of risk is related to possible devaluation of the lev and other currencies in which the Fund's investments are denominated. For example, the pegging of Bulgarian currency to the euro through the introduction of a currency board in 1997 means that lev fluctuations against foreign currencies depend on euro fluctuations against foreign currencies. As euro fluctuations are significantly smaller than lev fluctuations, the Bulgarian lev is currently stable as a result of the fixed exchange rate. Theoretically, this risk may increase when Bulgaria joins the European Exchange Rate Mechanism II (ERM II). This mechanism allows lev fluctuations of up to ±15% against the euro (i. e., maximum lev depreciation of up to BGN 2.2492 in exchange for 1 euro or maximum lev appreciation of up to BGN 1.66245 for 1 euro). Prcatically, all ERM members (Cyprus, Denmark, Estonia, Lithuania, Latvia, Malta) experience much smaller fluctuations, though the economic structure of some of those countries, as well as their macroeconomic indicators, are similar to those of Bulgaria.
And many others. In detail for each type of risk, which are set out investment in (shares) you can read in the Risk Management Rules and in the Prospectus of the MF Expat Bonds.
Mutual Fund
NAV |
BGN 3,301,489.03 |
NAV per share |
BGN 1,115.90 |
Yield 12 months |
0.25% |