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International Diversification at Home and Abroad

  • Fang Cai
  • Francis E. Warnock

It is an established fact that investors favor the familiar%u2014be it domestic securities or, within a country, the securities of nearby firms%u2014and avoid investments that would provide the greatest diversification benefits. While we do not rule out familiarity as an important driver of portfolio allocations, we provide new evidence of investors%u2019 international diversification motive. In particular, our analysis of the security-level U.S. equity holdings of foreign and domestic institutional investors indicates that institutional investors reveal a preference for domestic multinationals (MNCs), even after controlling for familiarity factors. We attribute this revealed preference to the desire to obtain %u201Csafe%u201D international diversification. We then show that holdings of domestic MNCs are substantial and, after accounting for this home-grown foreign exposure, that the share of %u201Cforeign%u201D equities in investors%u2019 portfolios roughly doubles, reducing (but not eliminating) the observed home bias.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 12220.

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Date of creation: May 2006
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Publication status: published as “Foreign Exposure through Domestic Equities”. Finance Research Letters.
Handle: RePEc:nbr:nberwo:12220
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