International Diversification and Information Heterogeneity
62 Pages Posted: 6 Oct 2017 Last revised: 20 Aug 2019
Date Written: July 3, 2018
We provide direct evidence that the heterogeneity in international portfolios reflects objective differences in information sets and quality. Using data on sovereign debt holdings of European banks, we find that (among other things) (i) higher expected returns and more accurate forecasts are associated with larger holdings and (ii) the more accurate the forecast, the greater is the elasticity of portfolio holdings to expected returns. The results suggest that investors internalize and use their advantage in information production accordingly when choosing their investment in foreign assets. To rationalize these facts, we propose a new model that incorporates both a fixed cost of investing abroad and an endogenous information choice. We find that both components are important to match the data.
Keywords: International Investment, Portfolio Choice, Expectations, Information Choice
JEL Classification: F21, F36, G11, D82
Suggested Citation: Suggested Citation