International Diversification of Investment Portfolios: U.S. and Japanese Perspectives

Abstract

In this paper, we analyze the gains from international diversification of investment portfolios from the Japanese as well as the U.S. perspectives. The major findings of this paper include: First, the 'potential' gains from international, as opposed to purely domestic, diversification are much greater for U.S. investors than for Japanese investors. For U.S. investors, the gains accrue not so much in terms of lower risk as in terms of higher return, and the opposite holds for Japanese investors. Second, using various 'ex ante' international investment strategies designed to control parameter uncertainty, U.S. investors can realize substantial gains from international diversification in out-of-sample periods. Japanese investors, however, can gain relatively little. Third, hedging exchange risk generally allows the U.S., but not Japanese, investors to benefit more from international diversification. For U.S. investors, the international bond diversification with exchange risk hedging offers a superior risk-return trade-off than the international stock diversification, with or without hedging.portfolio diversification, U.S.A., Japan

Hedging the Exchange Rate Risk in International Portfolio Diversification: Currency Forwards versus Currency Options

“…This evaluation is a fundamental tool for a portfolio manager as it provides practical advise for decision makers by checking the results in a out of sample framework. Therefore the back-ward testing procedure introduced by Eun/Resnick (1994) and Levy/Lim (1994) for both strategies, MRP and TP is applied. This is done by, first defining an appropriate estimation period length.…”

How Should Private Investors Diversify? - An Empirical Evaluation of Alternative Asset Allocation Policies to Construct A World Market Portfolio

“…For internationally diversified bond portfolios, Black and Litterman (1992) and Eun and Resnick (1994) find that currency risk needs to be controlled for. We thus restrict our analysis to Euro-denominated bonds.…”

Specialized International Equity Investment With Forward Foreign Exchange Trading: A U. S. Viewpoint

“…The significance of the RWH will be tested by the same statistic given in equation (7). The only difference is that the null hypothesis under the UFRH will be tested using a two-tailed test, whereas the null hypothesis under the RWH will be tested using a one-tailed test.…”

“…A recent ex ante international portfolio selection study by Eun and Resnick (1994) shows that when portfolios of stocks, bonds, and stocks and bonds are considered and the investment also includes forward contracts, the risk/return configuration is much better over those without forward contracts for international portfolios of bonds and stocks and bonds, but only minimal improvement is obtained for stock portfolios. A more recent study by Eun and Resnick (1997) explores passive and active strategies for handling exchange rate risk.…”