The Growing Importance of Political Risk in Corporate Sustainability

In today’s world, the capital markets must become better at interpreting political developments and understanding their implications for companies, while also being able to develop scenarios for what the future may look like. Every company must be able to explain to the capital market what the risks and opportunities are, and how they are being managed.

Geopolitical processes – if we understand geopolitics in a broader sense and not just as a theoretical concept – have increased dramatically in number. They now encompass not only war and destruction but also present strategic challenges and a realignment of global politics, security, trade, supply chains, natural resources, and food systems.

Thirty years ago, when companies flocked to China for its favorable production costs and efficient logistics, few considered the long-term political consequences. Political challenges were not on the radar, and what seemed like an opportunity then, has now become problematic.

Looking at the capital market as a whole, I believe there is still a shortage of people who genuinely understand and can analyze the impact of political polarization – or who have even taken an introductory course in political science or international relations. This creates a tendency to fall back on generalizations, to follow the herd, and to focus on statistics and long graphs instead of actively identifying political risks or opportunities – in the same way that a skilled equity analyst assesses profitability, cash flow, leadership, and market dynamics.

China’s growing focus on national security and self-sufficiency, combined with its slowing growth, has had consequences. The escalating tensions between the U.S. and China, along with increasing trade barriers and operational challenges for companies active in China, have led many firms to reduce their exposure or shift production elsewhere. Polarization is undeniably reshaping the playing field for Swedish companies.

Multinational corporations, with operations spanning several continents, are now faced with the need to monitor not only markets and competitors, but also the political landscape in the regions where they operate. For stakeholders, it is vital that companies communicate the economic and operational implications of geopolitical developments – to foster understanding.

The complexity of today’s political environment places high demands on stakeholders, who must navigate a landscape of heightened uncertainty. As previously mentioned, there is a lack of political literacy in parts of the financial community. Instead of recognizing emerging risks or opportunities, it is easier to default to numbers and trends.

In today’s environment, companies must not only understand how political developments may affect them but also strengthen their own ability to analyze and respond to the geopolitical context in which they operate. This means being able to clearly explain both risks and opportunities – and how they are being managed – to the capital markets.

This brings us to what I call political sustainability, or a company’s long-term ability to create value in relation to the political landscape. Labor disputes, logistics challenges, power structures, political unrest, regulation, immigration policies, taxes, legislation – these are just some of the political factors companies must consider. Not to mention war, conflict, terrorism, and security policy. Even when companies build resilience against threats like cyberattacks, political aspects cannot be ignored.

In fact, politics is becoming an integral part of corporate sustainability agendas.

The first sustainability assessments conducted on companies included in early MSCI indices received little attention. Today, ESG is a natural component of equity analysis. Over time – and if the world continues to polarize – I believe that geopolitical and political factors will become far more important indicators for investment decisions than they are today.

Currently, geopolitical risk is often bundled together with other risk categories – much like sustainability risk used to be just a one-line item in risk disclosures. Yet many ESG-related aspects, especially those related to climate, intersect with geopolitics. For example, climate transition risks are often linked to political decisions.

Discussions of global politics may now be found in well-informed boardrooms – but far from all. In smaller companies with limited resources, where focus lies primarily on operations, even market and competitor analysis is often overlooked. So how can we expect them to prioritize political risk analysis? Even though they should.

Looking ahead to the upcoming U.S. election, uncertainty is already impacting the markets. The outcome will undeniably affect Swedish companies. U.S. politics has global ramifications, and one of the candidates represents greater unpredictability and volatility in terms of security and trade.

Forward-thinking companies can prepare by sketching out two basic scenarios and asking: Will the election outcome affect us? If so, how? And how should we respond to a more protectionist environment? Similarly, risk-averse investors might prefer to focus on stocks that are less affected by U.S. election results – assuming they can identify which those are.

Assessing materiality and grading political risk depends on a probability analysis of whether a political event is likely to occur. That’s not an easy task. In today’s interconnected world, very little happens in isolation.

A simplified example:
The Hamas attack on Israel led to war in Gaza, which prompted Iranian-backed Houthi rebels to attack shipping vessels in the Red Sea, which forced some companies to reroute shipments around the Cape of Good Hope, which led to delays, component shortages, and increased CO₂ emissions.

How many companies had foreseen that chain of events?

One thing is certain: geopolitical and political risks will increasingly need to be addressed as part of corporate sustainability strategies. Companies with robust risk management systems and clear policies will be better positioned to handle these challenges than those lacking in analysis, competence, and process. Meanwhile, the capital market must improve its capacity for political analysis as part of its ESG assessments – at the company level.

The world has changed.

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