Abhigyan

Open Access Open Access  Restricted Access Subscription Access
Open Access Open Access Open Access  Restricted Access Restricted Access Subscription Access

Constructing International Equity Portfolio for BRIC Nations Using Modified Global CAPM Returns


Affiliations
1 FORE School of Management, New Delhi, India
     

   Subscribe/Renew Journal


International portfolio diversification allows a reduction in risk, relative to intra-national diversification, by offsetting individual country risk factors and hence reduces portfolio systematic risk to the 'world' risk factors alone. Paper illustrates the case of international diversification for four emerging markets namely, Brazil, Russia, India, and China using standard mean variance portfolio optimization method. Traditional mean variance optimization method requires calculation of historical returns, variances, and covariance for portfolio components. However, historical returns, variances and covariance are not the best predictor of future returns of the underlying assets, and thus it results into suboptimal portfolio of the underlying assets. To overcome this limitation paper construct a portfolio using a theoretical asset pricing model, namely Global CAPM. The Global CAPM uses U.S. treasury rates for risk free rate (Rf$), and MSCI World Index is used as a proxy for market return. The Global CAPM is further adjusted for country specific political risk factors for all the four countries under study using sovereign yield spread.

Keywords

Global CAPM, International Diversification, Portfolio Optimization, Emerging Markets.
User
Subscription Login to verify subscription
Notifications
Font Size

  • Bruner, R., Eades, K., Harris, R., & Higgins, R. (1998, Spring/Summer). Best practices in estimating the cost of capital: Survey and synthesis. Financial Practice and Education, 13-28.

  • Campbell, J., Lo, A., & McKinley, A. (1997). The Econometrics of financial markets, NJ: Princeton.

  • Damodaran, A. (2003). Investment valuation (2nd Ed.). New York: Wiley Finance.

  • Dimitris, K., Aristeidis, S., & Nikos, P. (2007). Financial crises and contagion: Evidence for BRIC stock markets. EFMA Vienna Meetings 2007. Available at SSRN: http://ssrn.com/abstract=1087282 or http://dx.doi.org/10.2139/ssrn.1087282, accessed on June 12, 2016.

  • D, Ng. (2004). The international CAPM when expected returns are time-varying. Journal of International Money and Finance, 189-230.

  • Elton, E., & Gruber, M. (1977). Risk reduction and portfolio size: An analytical solution. Journal of Business, 50 ( 4), 415-437.

  • Evans, J., & Archer, S. (1968). Diversification and the reduction of dispersion: An empirical analysis. Journal of Finance, 23, 761-767.

  • Harvey, C., & Viskanta, T. (1995). Country risk and global equity selection. Journal of Portfolio Management, 21, 74-83.

  • Graham, J., & Harvey, C. (2001). The theory and practice of corporate finance: Evidence from the field. Journal of Financial Economics, 187-243.

  • Godfrey, S., & Espinosa, R. (1996). A practical approach to calculating costs of equity for investment in emerging markets. Journal of Applied Corporate Finance, 80-89.

  • Harvey, C. (1995). Predictable risk and returns in emerging markets. Review of Financial Studies, 8, 773-816.

  • Levi, M.D. (2006). International finance (4th ed.). New York: Routledge.

  • Madhavan, V. (2013). Bivariate co-integration and time varying co-movements of MIST equity markets with the developed stock markets of the world. Indian Institute of Management Lucknow Working Paper No. 201213/27

  • Mishra, D., & O'Brien, T. (2001). A comparison of cost of equity estimates of local and global CAPMs.

  • Financial Review, 27-48.

  • Modi, A., Patel, B., & Patel, N. (2010). The study on co-movement of selected stock markets. International Research Journal of Finance and Economics, 47, 170-185.

  • Ross, S. (1976). The arbitrage theory of capital asset pricing. Journal of Economic Theory, 13, 341-360.

  • Sharpe, W. (1964). Capital asset prices: a theory of market equilibrium under conditions of risk. Journal of Finance, 33, 885-901.

  • Solnik, B.H. (1974). An equilibrium model of international capital markets. Journal of Economic Theory, 8, 500-524.

  • Stulz, R.M. (1999). Globalization, corporate finance, and the cost of capital. Journal of Applied Corporate Finance. 12 (3), 8-25.

  • Wilson, D., & Purushothaman, R. (2003). Dreaming with BRICs: The path to 2050. Goldman Sachs Economic Research, Global Economics Paper No. 99.

  • Wong, W., Agarwal, A., & Du, J. (2004). Financial integration for Indian stock market: A fractional cointegration approach. Finance India, 1581-1604.


Abstract Views: 425

PDF Views: 0




  • Constructing International Equity Portfolio for BRIC Nations Using Modified Global CAPM Returns

Abstract Views: 425  |  PDF Views: 0

Authors

Himanshu Joshi
FORE School of Management, New Delhi, India

Abstract


International portfolio diversification allows a reduction in risk, relative to intra-national diversification, by offsetting individual country risk factors and hence reduces portfolio systematic risk to the 'world' risk factors alone. Paper illustrates the case of international diversification for four emerging markets namely, Brazil, Russia, India, and China using standard mean variance portfolio optimization method. Traditional mean variance optimization method requires calculation of historical returns, variances, and covariance for portfolio components. However, historical returns, variances and covariance are not the best predictor of future returns of the underlying assets, and thus it results into suboptimal portfolio of the underlying assets. To overcome this limitation paper construct a portfolio using a theoretical asset pricing model, namely Global CAPM. The Global CAPM uses U.S. treasury rates for risk free rate (Rf$), and MSCI World Index is used as a proxy for market return. The Global CAPM is further adjusted for country specific political risk factors for all the four countries under study using sovereign yield spread.

Keywords


Global CAPM, International Diversification, Portfolio Optimization, Emerging Markets.

References