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American Depositary Receipts (ADR) holdings of U.S. based emerging market funds

  • Aggarwal, Reena
  • Dahiya, Sandeep
  • Klapper, Leora

For a foreign"issuer,"the benefits of cross-listing in the United States are extensively documented in the literature. However it is not clear what motivates"investors"to hold American Depositary Receipts (ADRs) rather than the underlying stock of these issuers. The authors address the investors'choice to purchase local shares versus investing in ADRs. Specifically, they analyze the investment allocation decision of mutual fund managers to invest in emerging market firms that are listed in their domestic markets and have also issued ADRs in the United States. Although legal provisions (governance/investor protection) are typically assumed to affect ADRs and their underlying domestic shares equally, investors holding ADRs may have a higher level of legal protection as these securities are issued and traded in the United States. The authors'results are consistent with this"better legal protection"hypothesis as they find that funds prefer to hold ADRs rather than the underlying shares if the issuer is from a country with weak investor protection laws. Also,theoretical models of multiple trading exchanges predict that trading should tend to aggregate in the market with the lowest transaction costs. Similarly, the relative liquidity of an ADR compared to that of its underlying stock should also affect the funds'relative holding of the ADR versus the underlying stock. Consistent with this"ease of transaction"hypothesis the authors find that if an issuer is based in a country with a relatively small stock market, low level of trading volume, and high transaction costs, funds tend to hold a larger proportion of their investments in the ADR. Furthermore, funds hold a larger fraction of their investment in the ADR if the ADR trading volume is high relative to its domestic security trading volume. The results also suggest that ADR listings of local firms might not negatively affect local markets if the investment climate is good.

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Paper provided by The World Bank in its series Policy Research Working Paper Series with number 3538.

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Date of creation: 01 Mar 2005
Date of revision:
Handle: RePEc:wbk:wbrwps:3538
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  1. Katharina Pistor, 2000. "Patterns of legal change: shareholder and creditor rights in transition economies," Working Papers 49, European Bank for Reconstruction and Development, Office of the Chief Economist.
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  5. Rafael La Porta & Florencio Lopez-de-Silane & Andrei Shleifer, 1998. "Corporate Ownership Around the World," NBER Working Papers 6625, National Bureau of Economic Research, Inc.
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  8. Merton, Robert C., 1987. "A simple model of capital market equilibrium with incomplete information," Working papers 1869-87., Massachusetts Institute of Technology (MIT), Sloan School of Management.
  9. La Porta, Rafael & Lopez-de-Silanes, Florencio & Shleifer, Andrei & Vishny, Robert, 2000. "Investor protection and corporate governance," Journal of Financial Economics, Elsevier, vol. 58(1-2), pages 3-27.
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  14. Gagnon, Louis & Karolyi, G. Andrew, 2004. "Multi-market Trading and Arbitrage," Working Paper Series 2004-9, Ohio State University, Charles A. Dice Center for Research in Financial Economics.
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  17. Miller, Darius P., 1999. "The market reaction to international cross-listings:: evidence from Depositary Receipts," Journal of Financial Economics, Elsevier, vol. 51(1), pages 103-123, January.
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