Familiarity Breeds Investment: Immigration and Equity Home Bias

Abstract

Why do investors hold such large positions in domestic equity when there are gains to be made from international diversification? This equity home bias puzzle has received considerable attention in the literature, with asymmetric information on domestic and foreign assets (whether by individual choice or by market imperfection) emerging as the most plausible explanation. If investors have relatively better information about local equities, what happens when we consider a subset of investors whose information sets are closer in line to investors in foreign countries? I assess the relationship between immigration and equity home bias and find that inward migration is positively correlated with increased foreign equity positions and reduced home bias. Looking across income groups, outward migration appears to reduce home bias for relatively rich countries, but may actually increase home bias when migration occurs to or from a developing country. These results suggest that immigration generates an external benefit of increased information flows between developed countries, but not for developing nations. That immigration tends to reduce equity home bias lends further credence to the information asymmetry explanation for the puzzle and supports recent work suggesting that this asymmetry is the result of optimizing behavior.