International portfolio investment and international diversification- benefits and limits
Project submitted for assessment of the Curricular Unit: Fundamentals of
Finance and International Financial Management of the 2nd Year of the
Joint Degree International Business Management
1.1 International Portfolio Investment definition 4
1.2 Principles of International Portfolio Investment 4
1.3 The Benefits from International Portfolio Investment 5
1.4 Participation.in.Growth.of.Foreign.Markets 6
1.5 Risks of International Portfolio Investments 6
2.1 International Diversification definition 7
2.2. History of ...view middle of the document...
International portfolio diversification has long been advocated as an effective way to achieve higher risk-adjusted returns than domestic investment alone. The main premise underlying this strategy is that international stocks tend to display lower levels of co-movement than stocks trading on the same market. To the extent that countries are subject to different shocks, then international diversification facilitates risk sharing among global investors.
In this paper we aim to present the basics of international portfolio investments and portfolio diversification, giving you benefits and limits of both.
1.1 International Portfolio Investment definition
An international investment offers a much broader range of opportunities than domestic investment alone, even in larger markets. Investment opportunities are no longer restricted to domestic markets, but financial capital can now seek opportunities abroad with relative easiness. Emerging markets, specifically, as they have become more and more reachable, have begun to offer more attractive investment alternatives to investors around the globe.
Investopedia describes the international portfolio as “a grouping of investment assets that focuses on securities from foreign markets rather than domestic ones. An international portfolio is designed to give the investor exposure to growth in emerging and international markets and provide diversification.”
While the environment has certainly become more favourable to international portfolio investment (IPI), the possible benefits for investors have lost none of their charms. There are the less-than-perfect relationships between national economies, the possibility of hedging an increasingly international consumption basket, and the participation in exceptional growth opportunities out of the country, which can now be taken advantage of through IPI. However, there is a significant argument among investment professionals, both in academia as well as in the financial services industry, on the issue to what extent these instinctively perceived benefits of international portfolio investment are sufficiently significant.
When the circumstances of the real world are taken into account, additional risks, costs and other limitations to IPI at best limit the potential advantages, at worst disprove the benefits.
1.2 Principles of International Portfolio Investment
Individuals must allocate their income among current consumption, productive investment, and financial investment. Simplifying these choices by assuming that consumption and productive investment decisions have already been made and thus forgetting potential feedback effects leaves the portfolio decision hardly defined: how to allocate the outstanding wealth to financial and/or real assets so as to maximize the most desired return, specifically, consumption in the future.
In the context of IPI, which involves investment not only in...