Portfolio Diversification in Europe

Abstract

Have the euro and accompanying measures of financial integration had a discernable impact on the degree of diversification of European investors? This is an empirical question that this paper tries to answer by exploring four alternative avenues. First we focus on the final outcome: If European investors are indeed better diversified, their consumption should be increasingly correlated. Second we check more directly what is known about the composition of Europeans' portfolios. A third perspective focuses on the evolution of returns and prices. If indeed European investors are attempting to exploit new arbitrage opportunities opened up by the euro and European financial integration, then it is likely that these behavioral changes will be matched by significant changes in returns or in the nature of the return generating process. Finally, we explore the possibility that the answer to our question may be better revealed by examining the changes that have taken place in the investment process itself.

Keywords: Risk sharing, Portfolio holdings, financial market integration, cross sectional dispersion

JEL Classification: F2, F36, G15