Can the Gains from International Diversification Be Achieved without Trading Abroad?

Errunza, Vihang R.; Hogan, Ked; Hung, Mao‐Wei

doi:10.1111/0022-1082.00182

“…16 Along similar lines, Froot and Dabora (1999) find that the location of stock listing matters for pricing. Our results are also in line with Errunza, Hogan and Hung (1999) who find that gains from international asset diversification beyond domestic diversification are statistically and economically insignificant.…”

Section: Foreign Exchange Rate Exposuresupporting

confidence: 91%

The cost of capital in international financial markets: local or global?

Koedijk¹,

Kool²,

Schotman³

et al. 2002

Journal of International Money and Finance

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Abstract:This paper analyzes to what extent international and domestic asset pricing models lead to a different estimate of the cost of capital for an individual firm. We distinguish between (i) the multifactor ICAPM of Solnik (1983) and Sercu (1980) including both the global market portfolio and exchange rate risk premiums, and (ii) the single factor domestic CAPM. We test for the significance of the cost of capital differential in a sample of 3,293 stocks from nine countries in the period 1980-1999. We find that the domestic CAPM yields a different estimate of the cost of capital from the multifactor ICAPM for only three percent of the firms in our sample. The difference amounts to on average 50 basis points for the US, 75 basis points for Germany and Japan and similar differentials for the other countries. We attribute these findings to strong country factors in individual stock returns.

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“…To our knowledge, there is not a single study able to report significant diversification benefits from a broad set of unhedged and (non-style based) international stock market returns for the tangency portfolio and a recent time period (Britten-Jones, 1999, Errunza, Hogan, and Hung, 1999, Eun, Huang, and Lai, 2008, Kan and Zhou, 2008, Eun, Lai, de Roon, and Zhang, 2010. Our results on the benchmark allocation in Table 2 with international stocks, the increase is insignificant according to the F and SDF hac test at common significance levels.…”

Section: B Mean-variance Efficiency Testsmentioning

confidence: 57%

International Diversification Benefits with Foreign Exchange Investment Styles

Kroencke

¹

,

Schindler

²

,

Schrimpf

³

2011

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Die Dis cus si on Pape rs die nen einer mög lichst schnel len Ver brei tung von neue ren For schungs arbei ten des ZEW. Die Bei trä ge lie gen in allei ni ger Ver ant wor tung der Auto ren und stel len nicht not wen di ger wei se die Mei nung des ZEW dar.Dis cus si on Papers are inten ded to make results of ZEW research prompt ly avai la ble to other eco no mists in order to encou ra ge dis cus si on and sug gesti ons for revi si ons. The aut hors are sole ly respon si ble for the con tents which do not neces sa ri ly repre sent the opi ni on of the ZEW.Download this ZEW Discussion Paper from our ftp server:ftp://ftp.zew.de/pub/zew-docs/dp/dp11028.pdf Abstract This paper provides a comprehensive analysis of portfolio choice with popular foreign exchange (FX) investment styles such as carry trades and strategies commonly known as FX momentum, and FX value. We investigate if diversification benefits can be achieved by style investing in FX markets relative to a benchmark allocation consisting of U.S. bonds, U.S. stocks, and international stocks. Overall, our results suggest that there are significant improvements in international portfolio diversification due to style-based investing in FX markets (both in the statistical, and most importantly, in the economic sense). These results prevail for the most important investment styles after accounting for transaction costs due to re-balancing of currency positions, and also hold in out-of-sample tests. Moreover, these gains do not only apply to a mean-variance investor but we also show that international portfolios augmented by FX investment styles are superior in terms of second and third order stochastic dominance. Thus, even an investor who dislikes negatively skewed return distributions would prefer a portfolio augmented by FX investment styles compared to the benchmark. Non-technical SummaryJEL-Classification: G11, G12, G15

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“…Somewhat surprisingly, empirical studies aimed at as-sessing international diversification often had trouble to establish statistically significant benefits. To our knowledge, there is not a single study -analyzing (non-style based) international stock market returns -which finds significant diversification benefits for the tangency portfolio and a recent time period (Britten-Jones, 1999, Errunza, Hogan, and Hung, 1999, Eun, Huang, and Lai, 2008, Kan and Zhou, 2008, Eun, Lai, de Roon, and Zhang, 2010. A possible explanation for this finding discussed in the literature is the ongoing integration of global markets and thus the potentially increasing correlation between international assets and decreasing diversification benefits.…”

Section: Related Literaturementioning

confidence: 96%

International Diversification Benefits with Foreign Exchange Investment Styles*

Kroencke

¹

,

Schindler

²

,

Schrimpf

³

2013

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Die Dis cus si on Pape rs die nen einer mög lichst schnel len Ver brei tung von neue ren For schungs arbei ten des ZEW. Die Bei trä ge lie gen in allei ni ger Ver ant wor tung der Auto ren und stel len nicht not wen di ger wei se die Mei nung des ZEW dar.Dis cus si on Papers are inten ded to make results of ZEW research prompt ly avai la ble to other eco no mists in order to encou ra ge dis cus si on and sug gesti ons for revi si ons. The aut hors are sole ly respon si ble for the con tents which do not neces sa ri ly repre sent the opi ni on of the ZEW.Download this ZEW Discussion Paper from our ftp server:ftp://ftp.zew.de/pub/zew-docs/dp/dp11028.pdf Abstract This paper provides a comprehensive analysis of portfolio choice with popular foreign exchange (FX) investment styles such as carry trades and strategies commonly known as FX momentum, and FX value. We investigate if diversification benefits can be achieved by style investing in FX markets relative to a benchmark allocation consisting of U.S. bonds, U.S. stocks, and international stocks. Overall, our results suggest that there are significant improvements in international portfolio diversification due to style-based investing in FX markets (both in the statistical, and most importantly, in the economic sense). These results prevail for the most important investment styles after accounting for transaction costs due to re-balancing of currency positions, and also hold in out-of-sample tests. Moreover, these gains do not only apply to a mean-variance investor but we also show that international portfolios augmented by FX investment styles are superior in terms of second and third order stochastic dominance. Thus, even an investor who dislikes negatively skewed return distributions would prefer a portfolio augmented by FX investment styles compared to the benchmark. Non-technical SummaryJEL-Classification: G11, G12, G15

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Can the Gains from International Diversification Be Achieved without Trading Abroad?

Cited by 314 publications

References 42 publications

The cost of capital in international financial markets: local or global?

The cost of capital in international financial markets: local or global?

International Diversification Benefits with Foreign Exchange Investment Styles

International Diversification Benefits with Foreign Exchange Investment Styles*

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