Free Flows, Limited Diversification: Explaining the Fall and Rise of Stock Market Correlations, 1890-2001

Dennis Quinn and Hans-Joachim Voth

No 7013, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: Using a new dataset on capital account openness, we investigate why equity return correlations changed over the last century. Based on a new, long-run dataset on capital account regulations in a group of 16 countries over the period 1890-2001, we show that correlations increase as financial markets are liberalized. These findings are robust to controlling for both the Forbes-Rigobon bias and global averages in equity return correlations. We test the robustness of our conclusions, and show that greater synchronization of fundamentals is not the main cause of increasing correlations. These results imply that the home bias puzzle may be smaller than traditionally claimed.

Keywords: diversification; equity return correlations; home bias (search for similar items in EconPapers)
JEL-codes: F21 G15 G18 N20 P16 (search for similar items in EconPapers)
Date: 2008-10
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