| Abstract: | This paper analyzes the impact of political risk on foreign investors' trading in emerging stock markets, market-wide and for industry portfolios, using quantified political risk ratings reported in the International Country Risk Guide and foreign flows data compiled by the Istanbul Stock Exchange. We also track the differential effect of political risk upgrades and downgrades. Political risk is shown to affect stock returns, net foreign flows, and macroeconomic variables. Foreigners' reaction to upgrades (downgrades) is slow (immediate) and smaller in magnitude. Foreigners' reaction to political risk varies with industry's sensitivity to market risk, except for the tourism sector, where their response is particularly salient. Local investors appear to provide liquidity to foreigners, who respond to information. |
