Working Paper: NBER ID: w15668
Authors: Isaac Ehrlich; Jong Kook Shin; Yong Yin
Abstract: By allowing for imperfectly informed markets and the role of private information, we offer new insights about observed deviations of portfolio concentrations in domestic relative to foreign risky assets, or "home bias", from what standard finance models predict. Our model ascribes the "bias" to endogenous information acquisition bolstered by investors' human capital. We develop discriminating hypotheses about the influence of "specific" and "general" human capital endowments and direct and opportunity costs of managing risky assets in determining whether to hold these assets, and how the assets' portfolio shares vary across investors and financial markets. These hypotheses are supported by numerical and econometric analyses of panel data from the US over 1992-2007, and 23 international financial markets over 2001-2007. The results indicate the existence of differences across countries in the degree to which home asset prices are "information-revealing", which may be relevant for fully understanding the global financial crisis of 2007-09.
Keywords: Private Information; Human Capital; Home Bias; Financial Markets
JEL Codes: D82; F30; G11; G12; G15; J24
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Higher general human capital (J24) | Increases optimal demand for both domestic and foreign risky assets (G19) |
| Higher general human capital (J24) | Enhances efficiency of information acquisition (D83) |
| Increased efficiency of information acquisition (D83) | Increases optimal demand for both domestic and foreign risky assets (G19) |
| Price information content (PIC) of domestic assets greatly exceeding that of foreign assets (F31) | Decrease in home bias as schooling increases (I25) |
| Price information content (PIC) of domestic assets lower than foreign assets (F31) | Increase in home bias with schooling (I25) |