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International Portfolio Choice with Frictions: Evidence from Mutual Funds

Author

Listed:
  • Philippe Bacchetta

    (University of Lausanne; Centre for Economic Policy Research (CEPR); Swiss Finance Institute)

  • Simon Tièche

    (University of Lausanne)

  • Eric van Wincoop

    (University of Virginia - Department of Economics; National Bureau of Economic Research (NBER))

Abstract

Using data on international equity portfolio allocations of US mutual funds, we estimate a simple portfolio expression derived from a standard Markowitz mean-variance portfolio model extended with portfolio frictions. The optimal portfolio depends on two benchmark portfolios, the previous month and the buy-and-hold portfolio shares, and a present discounted value of expected future excess returns. We show that equity return differentials are predictable and use the expected return differentials in the mutual fund portfolio regressions. The estimated reduced form parameters are related to the structural model parameters. The estimates imply significant portfolio frictions and a modest rate of risk-aversion. While mutual fund portfolios respond significantly to expected returns, portfolio frictions lead to a weaker and more gradual portfolio response to changes in expected returns. We also document heterogeneity across funds. Global and larger funds face bigger portfolio frictions, while more active funds give relatively less weight to the buy-and- hold portfolio (rebalance more aggressively).

Suggested Citation

  • Philippe Bacchetta & Simon Tièche & Eric van Wincoop, 2020. "International Portfolio Choice with Frictions: Evidence from Mutual Funds," Swiss Finance Institute Research Paper Series 20-46, Swiss Finance Institute.
    • Handle: RePEc:chf:rpseri:rp2046
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    Cited by:

    1. Faia, Ester & Lewis, Karen K. & Zhou, Haonan, 2025. "Do investor differences impact monetary policy spillovers to emerging markets?," Journal of International Economics, Elsevier, vol. 156(C).
    2. Simon Tièche & Didier Cossin, 2025. "Optimal Portfolio Choice in a General Equilibrium Model with Portfolio Frictions and Short-Selling Constraint," Mathematics, MDPI, vol. 13(12), pages 1-19, June.
    3. Bacchetta, Philippe & van Wincoop, Eric, 2021. "Puzzling exchange rate dynamics and delayed portfolio adjustment," Journal of International Economics, Elsevier, vol. 131(C).
    4. Maggiori, Matteo, 2021. "International Macroeconomics With Imperfect Financial Markets," SocArXiv z8g6r, Center for Open Science.
    5. Engel, Charles & Kazakova, Katya & Wang, Mengqi & Xiang, Nan, 2022. "A reconsideration of the failure of uncovered interest parity for the U.S. dollar," Journal of International Economics, Elsevier, vol. 136(C).
    6. Galloppo, Giuseppe & Guida, Roberto & Paimanova, Viktoriia, 2024. "Mutual fund flows and returns dynamics: Investor preferences and performance persistence," Research in International Business and Finance, Elsevier, vol. 71(C).
    7. Vania Stavrakeva & Jenny Tang, 2020. "A Fundamental Connection: Exchange Rates and Macroeconomic Expectations," Working Papers 20-20, Federal Reserve Bank of Boston.

    More about this item

    JEL classification:

    • F30 - International Economics - - International Finance - - - General
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions

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