Diversified international investment offers investors higher expected returns and/ or reduced
risks vis-à-vis exclusively domestic investment. Here we will discuss the sources and sizes of
these gains from venturing overseas for portfolio investment, which is investment in equities and
bonds where the investor’s holding is too small to provide any effective control.
The Advantages of International Portfolio Diversification
1. Spreading risk: Correlations between national asset markets
Because of risk aversion, investors demand higher expected returns for taking on investments
with greater risk. It is a well-established proposition in portfolio theory that whenever there is
imperfect co-relation between different assets’ returns, risk is reduced by maintaining only a
portion of wealth in any individual asset. More generally, by selecting a portfolio according to
expected returns, variances of returns, and co-relations between returns, an investor can achieve
minimum risk for a given expected portfolio return, or maximum expected portfolio return for a
given risk. Furthermore, ceteris paribus, the lower are the co-relations between returns on
different assets, the greater are the benefits of portfolio diversification.
International Journal of Marketing, Financial Services & Management Research________________________ ISSN 2277- 3622
Vol.2, No. 4, April (2013)
Online available at www.indianresearchjournals.com
19
Because of different industrial structure in different countries, and because different economies
do not trace out exactly the same business cycle, there are reasons for smaller co-relations of
expected returns between investments in numerous different countries than between investments
within any one country. This means that foreign investments offer diversification benefits that
cannot be enjoyed by investing only at home, and for example, that a US investor might include
British stocks in a portfolio even if they offer lower expected returns than US stocks; the benefit
of risk reduction might more than compensate for lower expected returns.