Study Shows Home Bias in Foreign Investment Decisions

Feb 8, 2011 | Atlanta, GA

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  • Qinghai Wang

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Brad Dixon

Georgia Tech College of Management

404-894-3943

brad.dixon@mgt.gatech.edu

When investing in foreign stocks, investors show a strong preference toward companies that have a physical presence in their home country, according to a study by a Georgia Tech College of Management researcher. The type of presence in question involves corporate operations or subsidiaries, not just exporting products somewhere.

"The idea of international investment is to diversify your portfolio globally," explains Qinghai Wang, associate professor of finance at Georgia Tech. "But you might not be truly doing that if you invest in companies strongly affected by your home economy – for example, diversifying in Japanese stocks but choosing companies like Toyota and Honda with a heavy U.S. presence."

Wang conducted the study, "Home Bias in Foreign Investment Decisions," with Dongmin Ke of Kean University and Lilian Ng of the University of Wisconsin-Milwaukee.

Published in the Journal of International Business Studies, the study shows that even mutual fund managers – professionals who might be expected to have a broader worldview – are prone to this "home bias." The researchers examined the U.S. equity holdings of more than 3,000 non-U.S.-based mutual funds from 22 developed and developing countries for the period 2001-2002. The study focused solely on the fund managers' foreign investments in the U.S. equity market.

"Fund managers who have different languages and cultural backgrounds and are located farther away from U.S. equity markets are more likely to invest in U.S. firms with local presence," write the researchers. "Fund holdings of such stocks, however, perform no better than a passive portfolio of all U.S. stocks with local presence, suggesting that the local presence of foreign firms does not provide significant information advantages to local fund managers."

In addition, the home bias shown by the study was independent of the global visibility of a firm. For instance, foreign investors still might be less likely to invest in a company as widely known as Coca-Cola if it didn't have an operational presence in their home country.

"Our evidence implies that firms could raise equity financing in the foreign markets by establishing a foreign presence in those markets, and policymakers could attract foreign investments in their domestic equity markets by encouraging domestic firms to expand internationally," write the researchers.