Asymmetric Information and the Lack of International Portfolio
AbstractThere is pervasive evidence that individuals invest primarily in domestic assets and thus hold poorly diversified portfolios. Empirical studies suggest that informational asymmetries may play a role in explaining the bias towards domestic assets. In contrast, theoretical studies based on asymmetric information fail to produce significant quantitative effects. The present paper develops a theoretical model in which the presence of informational asymmetries explains a significant fraction of the home equity bias observed in the data. The main departure from previous theoretical work is the assumption that local investors outperform foreign investors in identifying the correct ranking of local investment opportunities instead of possessing superior information about the aggregate performance of the domestic stock market. The other key assumption is based on the evidence that short-selling is a costly activity. This paper studies the case of a two-country world. There are two assets in each country. Only local investors receive informative signals about local assets. Thus, domestic agents have an incentive to concentrate their investments in the local asset favored by the signal realization, and reduce the position held in the other local asset. When the signal is sufficiently informative and short-sales are costly, local investors decide not to finance purchases of the perceived ``good'' local asset by selling short the perceived ``bad'' local asset. Instead they invest a lower fraction of their portfolio in foreign securities. This liberates resources that can be allocated in the local asset perceived to pay higher expected returns
Download InfoTo our knowledge, this item is not available for download. To find whether it is available, there are three options:
1. Check below under "Related research" whether another version of this item is available online.
2. Check on the provider's web page whether it is in fact available.
3. Perform a search for a similarly titled item that would be available.
Bibliographic InfoPaper provided by Society for Economic Dynamics in its series 2006 Meeting Papers with number 849.
Date of creation: 03 Dec 2006
Date of revision:
Contact details of provider:
Postal: Society for Economic Dynamics Christian Zimmermann Economic Research Federal Reserve Bank of St. Louis PO Box 442 St. Louis MO 63166-0442 USA
Web page: http://www.EconomicDynamics.org/society.htm
More information through EDIRC
International portfolio diversification; home bias; asymmetric information;
Find related papers by JEL classification:
- D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
- F30 - International Economics - - International Finance - - - General
- G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
You can help add them by filling out this form.
CitEc Project, subscribe to its RSS feed for this item.
- Heathcote, Jonathan & Perri, Fabrizio, 2008.
"The International Diversification Puzzle is Not as Bad as You Think,"
CEPR Discussion Papers
6982, C.E.P.R. Discussion Papers.
- Jonathan Heathcote & Fabrizio Perri, 2013. "The International Diversification Puzzle Is Not as Bad as You Think," Journal of Political Economy, University of Chicago Press, vol. 121(6), pages 1108 - 1159.
- Jonathan Heathcote & Fabrizio Perri, 2004. "The international diversification puzzle is not as bad as you think," 2004 Meeting Papers 152, Society for Economic Dynamics.
- Jonathan Heathcote & Fabrizio Perri, 2007. "The International Diversification Puzzle Is Not As Bad As You Think," NBER Working Papers 13483, National Bureau of Economic Research, Inc.
- Fabrizio Perri & Jonathan Heathcote, 2007. "The International Diversification Puzzle Is Not as Bad as You Think," Working Papers 2007-3, University of Minnesota, Department of Economics, revised 08 Oct 2007.
- Jonathan Heathcote & Fabrizio Perri, 2013. "The international diversification puzzle is not as bad as you think," Working Papers 472, IGIER (Innocenzo Gasparini Institute for Economic Research), Bocconi University.
- Jonathan Heathcote & Fabrizio Perri, 2007. "The international diversification puzzle is not as bad as you think," Staff Report 398, Federal Reserve Bank of Minneapolis.
- Galina Hale, 2011.
"Bank Relationships, Business Cycles, and Financial Crises,"
in: Global Financial Crisis
National Bureau of Economic Research, Inc.
- Hale, Galina, 2012. "Bank relationships, business cycles, and financial crises," Journal of International Economics, Elsevier, vol. 88(2), pages 312-325.
- Galina Hale, 2011. "Bank relationships, business cycles, and financial crisis," Working Paper Series 2011-14, Federal Reserve Bank of San Francisco.
- Galina Hale, 2011. "Bank Relationships, Business Cycles, and Financial Crises," NBER Working Papers 17356, National Bureau of Economic Research, Inc.
- Coeurdacier, Nicolas & Rey, Hélène, 2012.
"Home Bias in Open Economy Financial Macroeconomics,"
CEPR Discussion Papers
8746, C.E.P.R. Discussion Papers.
- Nicolas Coeurdacier & Hélène Rey, 2013. "Home Bias in Open Economy Financial Macroeconomics," Journal of Economic Literature, American Economic Association, vol. 51(1), pages 63-115, March.
- Hélène Rey & Nicolas Coeurdacier, 2010. "Home bias in open economy financial macroeconomics," Sciences Po publications info:hdl:2441/c8dmi8nm4pd, Sciences Po.
- Nicolas Coeurdacier & Hélène Rey, 2011. "Home Bias in Open Economy Financial Macroeconomics," NBER Working Papers 17691, National Bureau of Economic Research, Inc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Christian Zimmermann).
If references are entirely missing, you can add them using this form.