International diversification with American Depository Receipts (ADRs)

Abstract

It is already well known that U.S. investors can achieve higher gains by investing directly in emerging markets (De Santis, 1997). Given the opportunity to invest directly in the shares of stocks in the developed (DCs) and emerging (EM) markets, it is interesting to know whether the U.S. investors can potentially gain any benefits by investing in ADRs. We test both index models, and SDF-based model.Our findings show that U.S. investors needed to invest in both ADRs and country portfolios in developed in the eighties, and in Latin American countries in early nineties. During the early and late nineties, we find substitutability between ADRs and country portfolios in DCs. As more and more ADRs are enlisted in the US market from developed countries over time, the ADRs become substitutes to country. Similarly, countries with higher number of ADRs irrespective of regions show the same pattern of substitutability between ADRs and country indices. However, such substitutability does not exist for countries with the highest number of ADRs by the end of sample period, 2001. On the other hand, U.S. investors can achieve the diversification benefits by investing ADRs along with U.S. market index in Asia. The significant marginal contribution of one-third of developed countries requires investment in ADRs and U.S. market in the developed countries. And investors do not need to hold both ADRs and country as it was the case in the eighties. On the other hand, investors need to hold both ADRs and country portfolios in most of the Asian countries to achieve diversification benefits at margin.

International Diversification for Brazilian Investors through Domestic Assets

“…Our research corroborated previous studies that have highlighted the potential of Depositary Receipts and investment funds for international diversification from domestic investors in developed countries, such as Chang et al (1995), Errunza et al (1999), Arnold et al (2004), Charitou et al (2006) and Kabir et al (2011), but now considering Brazilian investors. In addition, the evidence from this research suggest that international diversification through domestic assets provides higher benefits for Brazilian investors when compared to investors in developed countries, since the Brazilian assets related to foreign assets not only showed low correlation coefficients between the main domestic market index, but also indicated higher risk-adjusted returns.…”

“…The maximum values observed by the BDRs, 0.443 (Table 4) and 0.278 (Table 4), were lower than those of stocks and funds, demonstrating once again the potential of these assets for international diversification.These results were consistent with the literature about international diversification benefits through Depositary Receipts (Errunza et al, 1999;Choi & Kim, 2000;Arnold et al, 2004;Wang & Yang, 2004;and Kabir et al, 2011).…”

“…Moreover, these results are in line with H1 and with most of the studies in this field related to DRs or investment funds, such as Chang et al (1995), Errunza et al (1999), Choi and Kim (2000), Arnold et al (2004), Wang and Yang (2004), Charitou et al (2006), Kabir et al (2011).…”

“…We selected these two modalities based on previous research, such as the studies of Errunza et al (1999), Arnold et al (2004) and Kabir et al (2011) about the Depositary Receipts, and Chang et al (1995), Errunza et al (1999) and Charitou et al (2006) about investment funds. We collect data about these assets using Economatica and the Information System of ANBIMA (SI-ANBIMA) sources.…”

“…In a similar study, Kabir et al (2011) analyzed ADRs from 23 different countries, among Latin America, Asia and developed markets, with a sample divided into three periods, 1981 to 1990, 1991 to 2000 and 2001 to 2007. The aim was to verify if US investors could achieve the benefits of international diversification, through ADRs, rather than investing directly in foreign market indices.…”