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The Introduction Of Emerging Currencies Into A Portfolio: Towards A More Complete Diversification Model

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  • Sophie Brana

    ()
    (Larefi - Laboratoire d'analyse et de recherche en économie et finance internationales - Université Montesquieu - Bordeaux IV : EA2954)

  • Stéphanie Prat

    ()
    (Larefi - Laboratoire d'analyse et de recherche en économie et finance internationales - Université Montesquieu - Bordeaux IV : EA2954)

Abstract

We draw on portfolio theory and international diversification in order to analyse strategies allowing to reduce emerging economies' exposure to exchange-rate risk. We show in particular that it may be efficient for an investor, in terms of maximising the return-to-risk ratio, to build up a portfolio of emerging-country assets denominated in local currency - unhedged against currency risk - compared with a strategy including emerging-country securities denominated in foreign currencies. This strategy would lead to a reduction in the original sin (i.e. the inability of emerging economies to borrow in local currency), and de facto to a reduction in currency mismatches in the balance sheets of emerging economies.

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Bibliographic Info

Paper provided by HAL in its series Working Papers with number hal-00616581.

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Date of creation: 15 Mar 2009
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Handle: RePEc:hal:wpaper:hal-00616581

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Related research

Keywords: International portfolio diversification; Original Sin; Emerging countries; Downside risk;

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  1. Campbell, Rachel A. & Kräussl, Roman, 2006. "Revisiting the home bias puzzle: Downside equity risk," CFS Working Paper Series 2006/31, Center for Financial Studies (CFS).
  2. Harlow, W. V. & Rao, Ramesh K. S., 1989. "Asset Pricing in a Generalized Mean-Lower Partial Moment Framework: Theory and Evidence," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 24(03), pages 285-311, September.
  3. Burger, John D. & Warnock, Francis E., 2007. "Foreign participation in local currency bond markets," Review of Financial Economics, Elsevier, vol. 16(3), pages 291-304.
  4. Barry Eichengreen & Ricardo Hausmann & Ugo Panizza, 2007. "Currency Mismatches, Debt Intolerance, and the Original Sin: Why They Are Not the Same and Why It Matters," NBER Chapters, in: Capital Controls and Capital Flows in Emerging Economies: Policies, Practices and Consequences, pages 121-170 National Bureau of Economic Research, Inc.
  5. Matus Medo & Chi Ho Yeung & Yi-Cheng Zhang, 2008. "How to quantify the influence of correlations on investment diversification," Papers 0805.3397, arXiv.org, revised Feb 2009.
  6. Bekaert, Geert & Harvey, Campbell R., 1997. "Emerging equity market volatility," Journal of Financial Economics, Elsevier, vol. 43(1), pages 29-77, January.
  7. Hwang, Soosung & Pedersen, Christian S., 2004. "Asymmetric risk measures when modelling emerging markets equities: evidence for regional and timing effects," Emerging Markets Review, Elsevier, vol. 5(1), pages 109-128, March.
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