The Myth of International Diversification

Imad A. Moosa () and Talla M. Al-Deehani ()
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Imad A. Moosa: Department of Accounting and Finance, Monash University, Postal: PO Box 197, Caulfield East 3145, Victoria, Australia,, http://www.monash.edu.au
Talla M. Al-Deehani: Department of Finance, Kuwait University, Postal: PO Box 5486, Safat 13055, Kuwait,, http://www.kuniv.edu.kw

Economia Internazionale / International Economics, 2009, vol. 62, issue 3, 383-406

Abstract: We test the proposition that international diversification is effective in reducing risk. The traditional underlying argument is that low correlations of international stock returns make the variance of an international portfolio lower than the variance of a purely domestic portfolio when long positions are taken on the domestic and foreign markets. Our analysis of more than 100 portfolios involving developed and emerging markets shows that correlations are not adequately low to produce effective diversification when long positions are taken. In a few cases involving developed markets only, correlations are high to the extent that taking opposite positions (long and short) produces effective diversification. The results cast serious doubt on the effectiveness of international diversification in reducing risk.

Keywords: International Diversification; Variance Ratio; Variance Reduction (search for similar items in EconPapers)
JEL-codes: F21 G11 G15 (search for similar items in EconPapers)
Date: 2009
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