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When Bonds Matter: Home Bias in Goods and Assets

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  • Pierre-Olivier Gourinchas

    (UC Berkeley)

  • Nicolas Coeurdacier

    (London Business School)

Abstract

Recent models on international equity portfolios exhibit two potential caveats: 1) Portfolios are indeterminate in the presence of bonds denominated in different currencies; 2) Equity portfolios are highly sensitive to preference parameters. We show that the addition of an additional, even small, source of risk alleviates this indeterminacy and makes equity portfolios much less sensitive to the preferences when bond returns can insure fluctuations in total consumption expenditures. We compute these 'robust portfolios' for the various set-ups explored in the literature. We document two cases where bond trading cannot hedge total consumption expenditures: in presence of nominal shocks, or preference/quality shocks. We discuss the empirical importance of these two cases.

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Bibliographic Info

Paper provided by Society for Economic Dynamics in its series 2008 Meeting Papers with number 342.

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Date of creation: 2008
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Handle: RePEc:red:sed008:342

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