DP5159 International Equity Flows and Returns: A Quantitative Equilibrium Approach

Author(s): Rui Albuquerque , Gregory Bauer , Martin Schneider

Publication Date: August 2005

Keyword(s): asymmetric information , heterogenous investors , asset pricing , international equity flows , international equity returns

JEL(s): F30 , G12 , G14 , G15

Programme Areas: Financial Economics , International Macroeconomics

Link to this Page: www.cepr.org/pubs/dps/DP5159.asp

This paper reconsiders the role of foreign investors in developed country equity markets. It presents a quantitative model of trading that is built around two new assumptions about investor sophistication: (i) both the foreign and domestic populations contain investors with superior information sets; and (ii) these knowledgeable investors have access to both public equity markets and private investment opportunities. The model delivers a unified explanation for three stylized facts about US investors’ international equity trades: (i) trading by US investors occurs in waves of simultaneous buying and selling; (ii) US investors build and unwind foreign equity positions gradually; and (iii) US investors increase their market share in a country when stock prices there have recently been rising. The results suggest that heterogeneity within the foreign investor population is much more important than heterogeneity of investors across countries.