International Diversification and Labor Income Risk

Abstract

Members of an occupational pension plan face the same industry shocks, since membership is based on employment industry. An occupational pension fund might therefore design portfolio composition so as to hedge members' labour income shocks at the industry level. This paper quantifies differences in equilibrium equity portfolios across investors belonging to different industry-country pairs. We compare these industry-based portfolios to the one that would be optimal for an investor endowed with the average home-country labor income. Our analysis uncovers remarkable heterogeneity across industries in the three investing countries considered - US, Canada and Italy. These results point to a role of occupational pension funds in hedging labour income risk through international equity diversification.

Keywords: optimal portfolio choice, labor income risk, industry-specific human capital, occupational pension funds

JEL Classification: E44, G11, G15