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International portfolio diversification is better than you think

  • Coeurdacier, Nicolas
  • Guibaud, Stéphane

Using aggregate data on bilateral cross-border equity holdings, we investigate whether investors correctly hedge their over-exposure to domestic risk (the well-known equity home bias) by investing in foreign stock markets that have low correlation with their home stock market. To deal with the endogeneity of stock return correlations, we instrument current correlations with past correlations. Controlling for many determinants of international portfolios, we find that, all else equal, investors do tilt their foreign holdings towards countries, which offer better diversification opportunities. The diversification motive that we uncover is stronger for source countries exhibiting a higher level of home bias.

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Article provided by Elsevier in its journal Journal of International Money and Finance.

Volume (Year): 30 (2011)
Issue (Month): 2 (March)
Pages: 289-308

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Handle: RePEc:eee:jimfin:v:30:y:2011:i:2:p:289-308
Contact details of provider: Web page: http://www.elsevier.com/locate/inca/30443

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