U.S. multinationals and the home bias puzzle: an empirical analysis

Abstract

While international portfolio investment has become much more common among U.S. investors, prior research has shown that they continue to exhibit a home bias in equity holdings. Hence, to gain the potential benefits of international diversification, they must turn to U.S. multinationals (MNCs), among other alternatives. The literature, however, contains mixed evidence on this, leading us to reexamine the issue here through the use of daily data covering the period of January 31, 1995, through May 31, 2001. Various tests applied to dollar returns for major U.S. and international stock market indices show weak correlations and no long-term cointegrating relationships between the U.S. sets and the foreign indices that exclude U.S. and Canadian stocks. The strong results obtained here imply that U.S. investors' portfolios can benefit from international diversification. To see if U.S. MNCs can provide such a benefit, a portfolio based on dollar returns of 47 U.S. multinationals, as well as a base portfolio represented by the broad S&P 500 index, are subjected to correlation tests vis-à-vis non-U.S. stock indices. Again, the findings provide strong evidence in favor of an internationally diversified portfolio. It appears that U.S. MNCs are not the reason for the continued existence of the home bias puzzle.