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The equity home bias puzzle: A survey

Journal

Foundations and Trends in Finance

Subject

Finance

Authors / Editors

Cooper I;Sercu P;Vanpee R

Biographies

Publication Year

2013

Abstract

Home bias -- the empirical phenomenon that investors assign anomalously high weights to their own domestic assets -- has puzzled academics for decades: financial theory predicts that an internationally well diversified portfolio of stocks and short-term bonds can reduce risk significantly without affecting expected return. Although the globalization of international equity markets has increased international investments, equity portfolios remain severely home biased today, and no single explanation seems to solve the puzzle completely. In this paper, we first provide a thorough description of the equity home bias phenomenon by defining, discussing, and applying the competing measures and presenting some estimates of the costs of under-diversification. Second, we evaluate the explanations for the equity home bias proposed in the literature such as information asymmetries, behavioral aspects, barriers to foreign investment, and governance issues, and conclude that each explanation on its own falls short, suggesting that the equity home bias probably reflects a combination of factors. Lastly, we review the implications of international under-diversification for portfolio formation and the cost of capital of companies

Keywords

Equity; Home bias; International portfolio choice

Available on ECCH

No


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