Home bias effect: evidence from industry portfolios

Abstract

HOME BIAS EFFECT: EVIDENCE FROM INDUSTRY PORTFOLIOS PURPOSE OF THE STUDY The objective of this study is to find out if industry portfolios consisting of stocks from the large industry sectors will outperform industry portfolios consisting of stocks from the small industry sectors. The theoretical background comes from home bias phenomenon, which means that investors prefer to invest in familiar domestic stocks rather than diversify internationally. In general, domestic investors are willing to pay less for the domestic shares, if they cannot diversify the industry risk away like the foreign investors can. The home biased portfolios will be highly influenced by the large and dominating industry sectors of that country. As the large industry sectors` stocks are riskier, they have larger risk premiums, and thus the expected return should be higher. DATA The massive data set consists of all companies that are listed on the national stock exchanges in 23 countries during 1973-2008. The data also covers discontinued companies and is so free from survivorship bias. Data for the calculation includes market values and quarterly stock returns for all the companies in 23 countries. RESULTS This thesis presents evidence that large industry sector portfolios outperform small industry sector portfolios. In Healthcare Equipment & Services, Media, Oil & Gas Producers and Oil Equipment & Services the large industry sector portfolios have statistically significant higher annualized returns and excess returns than small industry sector portfolios. Out of 17 industry sectors, large industry sector portfolios generally outperformed the small industry sector portfolios in annualized returns and excess returns. On the hand, the majority of small industry sectors had also positive annualized returns and excess returns, but large industry sector portfolios outperformed the small ones. KEYWORDS Home bias, industry sector portfolios, large industry sectors, small industry sector

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