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The Myth of International Diversification

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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.

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  • Moosa, Imad A. & Al-Deehani, Talla M., 2009. "The Myth of International Diversification," Economia Internazionale / International Economics, Camera di Commercio Industria Artigianato Agricoltura di Genova, vol. 62(3), pages 383-406.
    • Handle: RePEc:ris:ecoint:0005
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    More about this item

    Keywords

    International Diversification; Variance Ratio; Variance Reduction;
    All these keywords.

    JEL classification:

    • F21 - International Economics - - International Factor Movements and International Business - - - International Investment; Long-Term Capital Movements
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets

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