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Diversification, original sin, and international bond portfolios

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Author Info
John D. Burger
Francis E. Warnock
Abstract

This paper has two main goals: to analyze country allocations in international bond portfolios and to describe the development of bond markets around the world. In the primary analysis, we find that country weights in U.S. investors' foreign bond portfolios are determined by the openness of capital accounts and potential diversification benefits. Positions in local-currency-denominated bonds are particularly sensitive to past and prospective volatility of returns. Analysis of reallocations in bond portfolios from 1997 to 2001 reveals a flight to quality from countries with low and declining credit ratings; reallocations in U.S. investors' equity portfolios also reveal a discriminating flight from higher credit risks. In the secondary analysis, we present measures of the size and currency composition of bond markets and analyze the development of local currency bond markets. We find that while country size and the level of economic development influence the level of bond market development, past policies---as evidenced in the level and volatility of historical inflation---play an important role. An implication for developing countries is that creditor friendly policies, such as vigilance on the inflation front, can enable local bond market development and in turn attract global investors, in part by promoting the development of derivative instruments that allow the decoupling of bond and currency investments.

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Paper provided by Board of Governors of the Federal Reserve System (U.S.) in its series International Finance Discussion Papers with number 755.

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Date of creation: 2003
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Keywords: Bonds ; International finance;

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References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
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(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Barry Eichengreen & Ricardo Hausmann & Ugo Panizza, 2003. "Currency Mismatches, Debt Intolerance and Original Sin: Why They Are Not the Same and Why it Matters," NBER Working Papers 10036, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  2. Jeanne, Olivier, 2003. "Why Do Emerging Economies Borrow in Foreign Currency?," CEPR Discussion Papers 4030, C.E.P.R. Discussion Papers. [Downloadable!] (restricted)
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  3. Barry Eichengreen & Pipat Luengnaruemitchai, 2004. "Why Dones't Asia have the biger bond markets," Working Papers 242004, Hong Kong Institute for Monetary Research. [Downloadable!]
  4. De Nicolo, Gianni & Honohan, Patrick & Ize, Alain, 2003. "Dollarization of the banking system : good or bad?," Policy Research Working Paper Series 3116, The World Bank. [Downloadable!]
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  5. Anastasia Guscina & Olivier Jeanne, 2006. "Government Debt in Emerging Market Countries: A New Data Set," IMF Working Papers 06/98, International Monetary Fund. [Downloadable!]
  6. Barry Eichengreen & Pipat Luengnaruemitchai, 2004. "Why Doesn't Asia Have Bigger Bond Markets?," NBER Working Papers 10576, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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