Country ETFs, currencies and international diversification

S Owen Williams ()
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S Owen Williams: Grenoble Ecole de Management

Journal of Asset Management, 2014, vol. 15, issue 6, No 5, 392-414

Abstract: Abstract Empirical evidence shows that market prices of country exchange traded funds (ETFs) react in unison with domestic stocks on their listing exchange to a common set of risk factors. This would argue against the use of indirect foreign investments via country ETFs to diversify a portfolio of domestic stocks. Using the net asset values of a cross-section of US and European-listed ETFs to control for market noise and time zone discrepancies, this study seeks to quantify the diversification benefits of country ETFs for a domestic investor. Moreover, fund returns are decomposed into their two fundamental drivers – the variations of the underlying foreign stocks and the foreign currency – in order to investigate the role of currency returns in modifying correlations between country funds and domestic stocks. To conclude, the analysis is repeated for the pre- and post-financial crisis periods to gain insight into shifts in the relationships between world equity markets since this dislocation.

Keywords: exchange traded funds; foreign exchange rates; currency hedging; diversification; financial crisis; international finance (search for similar items in EconPapers)
Date: 2014
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DOI: 10.1057/jam.2014.28

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