Conceptual Basis of International Investments

Conceptual Basis of International Investments

DOI: 10.4018/978-1-5225-7696-9.ch001

Abstract

This chapter provides a theoretical background for international investments in general. However, before going into the conceptual details of international investments, the concept of investment in general is clarified with respect to national economies in terms of financial and real capital or fixed investments. From the viewpoint of investors' objectives of controlling the investment area, international investments are classified in two general categories: international portfolio investments and foreign direct investments. In order to complete the conceptual basis of international investments, the theoretical aspects of foreign direct investments as the main subject of this book are discussed so as to establish a theoretical background for the book. Therefore, upon describing various forms of foreign direct investments, the reasons for international investors to invest abroad as well as the advantages of direct investments for host countries are expounded to give the reader a holistic picture about the importance of foreign direct investments for both international investors and host countries. Eventually, the traditional political critiques of international investment are given to cover all pros and cons of international investments in general and foreign direct investments specifically. Finally, the essential reasons for conducting a comprehensive feasibility study for planning and analyzing foreign direct investments are discussed in order to expound the significance of this book.
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The Concept Of Investment In General

The concept of investment generally refers to the expenditures made today for the purpose of making a profit in the future. In other words, investment is the spending of money to obtain financial and/or physical assets today with the expectation of earning more later on in the future either by selling or using them. From this general viewpoint the concept of investment covers wide range of investing activities; such as purchasing all kinds of financial instruments like company stocks and bonds, buying financial derivatives, foreign currencies, or real estate, acquiring and building factories or plants, etc. In all cases, the purpose of spending is the expectation of the investment made today to gain value in the future so as to make profit.

For example, consider a person who buys some IMB stocks in New York Stock Exchange (NYSE) and several Euro (EUR) currency call options in the Chicago Board of Trade (CBOT) or even a commodity importer in Turkey who foresees sharp rises in USD/TL (Turkish Lira) exchange rate in the near future and thus purchases from a bank a significant amount of USDs. The essential motive for purchasing financial instruments and foreign currency is that the stock price and exchange rates will increase in the future. No doubt that this is an expectation so that it may turn out to be a loss as well. That is, stock prices and exchange rates may not rise or might even go down. This variation is an inherent characteristic of all investments. This, in turn, means that all investments are based on expectations.

To be more specific about variations in the expectations of investors, let’s assume that an individual expecting price rises in the common stocks of a popular automobile company buys some, say, 100 individual stocks each for $5, and thus pays $500 in total. Assume again that nine months later he or she was lucky enough and sold all common stocks for $750. Thus, disregarding the time value of money, we may simply say that this person made a profit of (750 – 500 =) $250 through investing in common stocks of an automobile company. Consequently, this person spent 500 dollars with the expectation of making profit in the future. Finally, nine months later, he or she was lucky enough and made a profit of $250 out of the investment of $500 in common stocks.

Notwithstanding the fact that the essential purpose of investing is the anticipation of making profit, however, the macro and micro economic conditions in the future may change and thus the investment may end up with a loss. For example, the country may go though some adverse economic conditions such as increases in inflation and interest rates, trade and budgetary deficits, or the company whose stocks were purchased may face some financial and marketing problems; thus, the investment in common stocks might result in a loss as well, if the person (the investor) was not lucky enough. Suppose that due to the negative economic and financial conditions surrounding the securities market, all acquired stocks had been sold for $400 in total. That is the profit seeking investor’s expectation did not realize as it is desired. This time, one would say that the investment in common stocks resulted in a loss of (500 - 400 =) $100.

In order to earn money or make profit in the future, as indicated earlier, individuals and business firms make investments in various forms that might be divided in two general groups:

  • 1.

    Financial investments in financial assets refers to buying company stocks, bonds, and other securities, precious metals like gold and silver, and even foreign exchange, etc. Investments in financial assets are, in fact, purchasing of financial instruments and securities of all kinds whose expected profits are obtained when they are sold, undoubtedly, if there is a profit. That is, the expected profit is realized through buying and selling financial instruments. Therefore, these types of investments might be considered as a kind of financial trading. Investors of financial assets are actually traders in the sense that they buy and sell financial instruments.

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