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Do investors still benefit from culturally home-biased diversification? An empirical study of China, Hong Kong, and Taiwan

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Abstract

Due to the continual economic integration and the accumulation of wealth in China, Hong Kong, and Taiwan, understanding portfolio strategies and the benefits of diversification for these countries is an indispensible element in managing global assets. Using weekly industry-level data, we analyze culturally home-biased diversification strategies and find that local investors still benefit from regional investments. The time-varying benefits of diversification exist even as the economies of this region have become increasingly integrated. Our analysis suggests that stricter weighting bounds reduce the economic values of diversification but enhance the feasibility of the optimal portfolio allocations. The larger benefits gained by Chinese investors suggest that international diversification is more advantageous to investors in emerging economies than to those in richer, developed markets. The robustness tests generate similar findings when we evaluate the out-of-sample effectiveness and the benefits of diversification under various parameter estimation windows.

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Notes

  1. For more discussion, see Bekaert and Harvey (1995, 2003) and Harvey (1995).

  2. In this paper, we use multiple terms interchangeably, such as the “Sino region” and the “Mandarin area,” to refer to the pan-Chinese market.

  3. Jin and Myers (2006) and Morck et al. (2000) find that stock market synchronicity (such as R 2) is negatively associated with market development and information transparency. Bekaert et al. (2009) provide some empirical evidence by using data of developed countries.

  4. See International Monetary Fund (2010).

  5. These treaties are similar to a free trade agreement (FTA).

  6. For a more detailed discussion, see Coval and Moskowitz (1999) and Parwada (2008) for intranational empirical findings, and Chan et al. (2005), Cooper and Kaplanis (1994), Errunza et al. (1999), French and Poterba (1991), Hau and Rey (2008) for the international empirical results. Graham et al. (2009) and Lau et al. (2010) provide an investigation of the factors determining home bias.

  7. For a more detailed discussion, see Bae et al. (2008), Denis et al. (2002), Qian et al. (2008) and Rugman (2005).

  8. For a more detailed discussion, see Bekaert and Urias (1996), Berger et al. (2011), Chiou (2009), Cosset and Suret (1995), De Roon et al. (2001), De Santis and Gerard (1997), Fletcher and Marshall (2005), French and Poterba (1991), Goetzmann et al. (2005), Harvey (1995), Li et al. (2003), Novomestky (1997), and Obstfeld (1994).

  9. See Chiou (2008, 2009), De Roon et al. (2001), Harvey (1995), Li et al. (2003), Pástor and Stambaugh (2000), and So and Tse (2001).

  10. Due to the limitation of ownership by foreign investors, the optimal portfolios with a large U may not be workable to asset management. The feasibility as well as flexibility for portfolio management should be considered when selecting the upper bounds of the weights. For the efficiency of presentation, we report the benefits of diversification with constraints by setting U ranging from 10 to 40%. Additional results of different U’s may be requested from the author.

  11. The major limitation is that the data of Hong Kong and Taiwan is available after the early 1980’s but the date of China is only available after 1995.

  12. The improvement of mean–variance efficiency under various trading constraints moves in the same direction but is not proportional in size. The results generated using additional upper bounds may be requested from the authors.

  13. For further discussion, see Elton et al. (2007).

  14. We also tested with 24-week rebalancing, and the results are consistent with the trend.

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Acknowledgments

The authors would like to thank Jason Chiu, anonymous referees, and participants at the Financial Management Association Annual Meeting in New York City for helpful comments and suggestions. The usual disclaimer applies.

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Authors and Affiliations

  1. Finance and Law Department, Central Michigan University, Mount Pleasant, MI, 48859, USA

    Paul Chiou

  2. Department of Finance and Economics, Rutgers University, New Brunswick, Piscataway, NJ, 08854, USA

    Cheng-Few Lee

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  1. Paul Chiou
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Correspondence to Paul Chiou.

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Chiou, P., Lee, CF. Do investors still benefit from culturally home-biased diversification? An empirical study of China, Hong Kong, and Taiwan. Rev Quant Finan Acc 40, 341–381 (2013). https://doi.org/10.1007/s11156-011-0257-9

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