Global Diversification of Equity Portfolios: Non-US Perspective

Abstract

The purpose of this paper is to examine the ex-ante performances of international portfolios from a non-U .S. investor's perspective (i.e., Mexican, Thai, German, and British), and to examine whether controlling for exchange rate risk through the use of currency forwards would allow investors to capture additional gains from international diversification. Portfolio strategies such as minimum variance portfolio and the certainty equivalence portfolio are used to construct global portfolios, and their performances on an ex-ante basis are compared to those for domestic portfolios for each of the four countries. The sample period from 1999 to 2003 is selected so as to examine the effect of the introduction of the euro on the benefits of international portfolio diversification. Our results suggest that during the sample period, international portfolio diversification does not benefit Mexican and Thai investors mainly due to the fact that their domestic market performances dominate the performances using international diversificati on strategies. On the other hand. Gemlan and British investors can benefit from international portfolio diversification. However, hedging against exchange rate risk reduces the benefits of international portfolio diversification. Our result suggests that part of the diversification benefits for investors in developed economics comes from exchange risk exposure.