Assessing the benefits of international portfolio diversification in bonds and stocks

Roberto A. De Santis () and Lucio Sarno ()
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Roberto A. De Santis: European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany., http://www.ecb.europa.eu/home/html/index.en.html

No 883, Working Paper Series from European Central Bank

Abstract: This paper considers a stylized asset pricing model where the returns from exchange rates, stocks and bonds are linked by basic risk-arbitrage relationships. Employing GMM estimation and monthly data for 18 economies and the US (treated as the domestic country), we identify through a simple test the countries whose assets strongly comove with US assets and the countries whose assets might offer larger diversification benefits. We also show that the strengthening of the comovement of returns across countries is neither a gradual process nor a global phenomenon, reinforcing the case for international diversi.cation. However, our results suggest that fund managers are better of constructing portfolios selecting assets from a subset of countries than relying on either fully internationally diversified or purely domestic portfolios. JEL Classification: F31, G10.

Keywords: Asset pricing; exchange rates; international parity conditions; market integration; stochastic discount factor. (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-cba, nep-ifn and nep-opm
Date: Written 2008-03
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Persistent link: http://EconPapers.repec.org/RePEc:ecb:ecbwps:20080883

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