International diversification with securitized real estate and the veiling glare from currency risk

This paper analyzes diversification benefits from international securitized real estate in a mixed-asset context. We apply regression-based mean-variance efficiency tests, conditional on currency-unhedged and fully hedged portfolios to account for foreign exchange risk exposure. From the perspective of a US investor, it is shown that first, international diversification is superior to a US mixed-asset portfolio, second, adding international real estate to an already internationally diversified stock and bond portfolio results in a further significant improvement of the risk-return trade-off and, third, considering unhedged international assets could lead to biased asset allocation decisions not realizing the true diversification benefits from international assets. Our in-sample results are quite robust in out-of-sample analysis and when investment frictions like short selling constraints are introduced. --Diversification Benefits,International Mixed-Asset Portfolios,Currency Hedging,Spanning Tests,Short Selling Constraints

Downside risk optimization in securitized real estate markets

Optimization of international securitized real estate portfolios has been a key topic for several decades. However, most previous analysis has focused on regional diversification by applying the traditional mean-variance (MV) framework suggested by Markowitz (1952) even if the limitations of this approach are well-known. Thus, we focus on a more suitable and appealing downside risk (DR) framework suggested by Estrada (2008), which applies a similar optimization algorithm as the MV framework. The analysis covers the eight largest securitized real estate markets from January 1990 to December 2009 and thus captures a more global perspective. The main findings are as follows: first, the return distributions are non-normally distributed and negatively skewed. Second, optimal portfolio weights differ substantially between the MV and DR approach. Third, portfolio weights are shifted from the U.S. and Australian market to the Dutch and the French market when applying the DR framework instead of the MV framework. Fourth, the dominance of the DR framework is well-documented by comparing out-of-sample performance. The empirical results are remarkable and emphasize the practical merit of the presented DR framework for investors and portfolio managers. --Downside Risk Analysis,International Real Estate Markets,Portfolio Management,Portfolio Optimization,Out-of-Sample Analysis

International diversification benefits with foreign exchange investment styles

This paper provides a comprehensive analysis of portfolio choice with popular foreign exchange (FX) investment styles such as carry trades and strategies commonly known as FX momentum, and FX value. We investigate if diversification benefits can be achieved by style investing in FX markets relative to a benchmark allocation consisting of U.S. bonds, U.S. stocks, and international stocks. Overall, our results suggest that there are significant improvements in international portfolio diversification due to style-based investing in FX markets (both in the statistical, and most importantly, in the economic sense). These results prevail for the most important investment styles after accounting for transaction costs due to re-balancing of currency positions, and also hold in out-of-sample tests. Moreover, these gains do not only apply to a mean-variance investor but we also show that international portfolios augmented by FX investment styles are superior in terms of second and third order stochastic dominance. Thus, even an investor who dislikes negatively skewed return distributions would prefer a portfolio augmented by FX investment styles compared to the benchmark. --International Diversification,Foreign Exchange Speculation and Hedging,Carry Trades,Stochastic Dominance,Investment Styles

The FOMC risk shift

We identify a component of monetary policy news that is extracted from high-frequency changes in risky asset prices. These surprises, which we call “risk shifts”, are uncorrelated, and therefore complementary, to risk-free rate surprises. We show that (i) risk shifts capture the lion’s share of stock price movements around FOMC announcements; (ii) that they are accompanied by significant investor fund flows, suggesting that investors react heterogeneously to monetary policy news; and (iii) that price pressure amplifies the stock market response to monetary policy news. Our results imply that central bank information effects are overshadowed by short-term dynamics stemming from investor rebalancing activities and are likely to be more difficult to identify than previously thought

The FOMC risk shift

This paper presents new evidence on channels through which monetary policy affects prices in equity and other asset markets. A large part of U.S. equity price moves around FOMC meetings can be attributed to shocks that are uncorrelated with yield changes but closely linked to changes in investors' risk appetite. These price effects are mirrored by investors' portfolio rebalancing decisions, manifesting themselves via sizeable shifts in fund flows between bonds and equities. All these effects are transitory and largely reversed after about one month. We find evidence that risk appetite shocks are related to changes in uncertainty triggered by FOMC meetings