- Home Bias Abroad: Domestic Industries and Foreign Portfolio Choice
In their foreign portfolios, international mutual funds overweight industries that are comparatively large in their domestic stock market. This Foreign Industry Bias is akin to a “Home Bias Abroad” and explains between 13% and 47% of foreign benchmark deviations. The bias is associated with superior performance primarily driven by stockpicking within foreign industries by funds with a simultaneous “Home Bias” in the domestic portfolio. Such funds outperform foreign market indices and active local country funds when investing in large domestic industries abroad. The results suggest that domestic stock market compositions proxy for the comparative advantages of international investors when they invest abroad.
We study the link between information barriers in global markets and the organizational form of asset management. Fund families outsource funds in which they unlikely to generate performance and select subadvisors along information-relevant dimensions. Using a structural model of self-selection, we endogenize the outsourcing decision and estimate positive gains from outsourcing of around 9-14 bps per month despite the ex-post underperformance of outsourced funds relative to in-house funds. The gains from outsourcing proxy for the information barriers families face that render different markets (informationally) segmented. The more segmented the underlying markets where funds invest, the larger the gains from outsourcing.
- Contagion and Decoupling in Intermediated Financial Markets
I analyze the interplay between fundamental and intermediation risk in a multi-asset dynamic general equilibrium model with heterogeneous agents. Agents differ in their level of direct access to investment opportunities. Intermediation relationships are formed to overcome limited market access. Intermediation risk is captured via frictions in the relationships between agents that introduce fragility into asset prices. Asset prices are fragile when they have a concentrated investor base making them dependent on the fortunes of a few investors. In contrast, a non-concentrated investor base makes asset prices resilient with respect to intermediation risk. But not all assets with a concentrated investor base are fragile. I identify fundamental characteristics that induce resilience in assets with a common concentrated investor base. These characteristics lead to portfolio rebalancing within the common investor base that makes some assets resilient and renders others fragile in the presence of intermediation risk. Likewise, in a multi-asset framework, assets that are resilient due to a broad investor base are not completely immune to the fragility experienced by other assets. In a dynamic context, fragile assets tend to experience contagion whereas resilient assets tend to decouple whenever the intermediation frictions are severe. I argue that an understanding of the dynamic behavior of asset prices requires an understanding of fundamental and intermediation risk as well as the interaction between the two.