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When Bonds Matter: Home Bias in Goods and Assets

Author

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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.

Suggested Citation

  • Pierre-Olivier Gourinchas & Nicolas Coeurdacier, 2008. "When Bonds Matter: Home Bias in Goods and Assets," 2008 Meeting Papers 342, Society for Economic Dynamics.
  • Handle: RePEc:red:sed008:342
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    JEL classification:

    • F30 - International Economics - - International Finance - - - General
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions

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