International Portfolio Diversification Opportinities between Turkey and Other Emerging Markets

Abstract

Deregulation and integration of world capital markets has increased the importance given on the gains from international portfolio diversification. International portfolio diversification enables the reduction of systematic risk through diversification assets across other national markets. However, reduction of systematic risk and attaining diversification gains through portfolio diversification requires a relationship not being cointegrate among stock markets. This relationship which is an indicator of interdependencies and common trends among international stock markets, allows the determination of diversification opportunities. In this context, this paper uses Johansen’s(1988) cointegration test to examine the presence of long-run relationship between Turkish stock market and other twenty emerging stock markets (South Africa, Brazil, Czech Republic, Chile, China, Colombia, India, Indonesia, Korea, Hungary, Mexico, Egypt, Morocco, Peru, Philippines, Poland, Russia, Taiwan, and Thailand). Monthly index data from December 1994 through April 2008 used are international equity indices which are constructed on a consistent basis across countries by Morgan Stanley Capital International (MSCI). Because the structural breaks might affect cointegration results, parameter stability is also tested with several recussive tests developed by Hansen and Johansen (1999) in the bivariate relationships where Johansen cointegration tests suggest the existence of a long-run relationship. Pair wise cointegration results indicate the existence of cointegration relationship between Turkish stock market and other emerging stock markets, except Indonesia, Philippines, Malaysia and Morocco stock markets. These results indicate that the gains from international portfolio diversification for Turkish investors are limited in emerging markets. So, it should be advantageous to investigate diversification opportunities in other stock markets rather than those emerging stock markets. The contribution of this study to existing literature is related to investigation of diversification opportunities in the emerging markets through the case of Turkey. This contribution becomes important with the fact that the empirical literature investigating the existence of long-run benefits from international portfolio diversification is mostly based on other stock markets.