International Portfolio Diversification

As soon as one comes to grips with the actual problems of international monetary economics it becomes indispensable to account for the fact that virtually every country has its own monetary unit and that most international trade is not barter trade but is carried out by exchanging goods for one or another currency. Besides, there are international economic transactions of a purely financial character, which therefore, involve different currencies. Like the money market, the foreign exchange market is a market where financial paper with a relatively short maturity is traded.However, the financial paper traded in the foreign exchange market is not all denominated in the same currency. In the foreign exchange market, paper denominated on another currency. One justification for the existence of this market is that nations have decided to keep their sovereign right to have and control their own currency. If every country in the world used the same currency, there would not be a foreign exchange market. The foreign exchange market considers the time when the transaction is closed to be one of the elements in the market.

In the foreign exchange market elements is taken into account by dividing the market into spot and forward markets. The spot market is a foreign exchange delivered within two business days, while the forward market is for foreign exchange transactions for immediate delivery or for delivery up to seven days later are traditionally considered to be spot transactions, although they carry a different rate depending on the specific delivery date. The date of delivery is technically called the value date.In an efficient speculative market prices should fully reflect information available to market participants and it should be impossible for a trader to earn excess returns to speculation.

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Academic interest in foreign exchange market efficiency can be traced to arguments concerning the information content of financial market prices and the implications for social efficiency. In its simplest form, the efficient markets hypothesis can be reduced to a joint hypothesis that foreign exchange market participants are, in an aggregate sense endowed with rational expectations and risk-neutral.The hypothesis can be modified to adjust for risk, so that it then becomes a joint hypothesis of a model equilibrium returns and rational expectations. Literature Review: The literature on foreign investment during the Gold Standard era is formidable, reflecting the importance of the subject. The Gold Standard Era as roughly the years from 1880 to 1914.

In this period, there exists a consensus that the amount of capital that moved over national borders was substantial. The capital flowed from private savings in source-of-capital nations to public and private sector activities abroad.The absence of foreign exchange restrictions and serious fluctuations in exchange rates for the major nations of the world opened the way for the vast enlargement of international trade and investments, resulting in the integration of the world economy. After century of various events in terms of international finances, floating exchange rates, capital inflows because a nominal appreciation that reduces competitiveness, under pegged exchange rates, deciding not to reserve inflows will allow a monetary expansion, inflation and a similar loss of competitiveness, unless higher money demand was the sole cause of the original inflow.Similarly, where the policy mix entails high real interest rates plus an appreciating real exchange rate, capital inflows are likely whatever the exchange rate regime. Since 1973, the major industrial countries have generally allowed their currencies to float in value against each other. This choice of floating nominal exchange rate system by large developed countries masks the fact that most of the world’s currencies have limited foreign exchange rate flexibility because of conscious government policy.

Today, there are ninety-four of the one hundred fifty-one International Monetary Fund (IMF) members’ countries reporting their status claim to follow some form of fixed nominal exchange rate system. Given the great diversity of exchange rate systems in the world today and the frequent calls for reform, it is particularly appropriate to take inventory of what economist have learned regarding the determinants and effect of a country’s choice of exchange rate system. Portfolio Diversification:When looking at the portfolio composition for old-age provision, it would be foolish to neglect that social security wealth plays an important role as a quasi-asset in the portfolio of an individual’s wealth. Taking this into consideration should have an effect on personal investment decision when no risk-free asset is available.

At the same time, on the bases of welfare-improving risk diversification, the policy maker should also take a portfolio approach when designing social security.At the same line of argument, international diversification of the portfolio should be recognized as another possible way of spreading risk. Because domestic capital markets and labor productivity and hence the return of social security are positively correlated at long horizons. International diversification is of special importance for old-age provision.

Placing of financial assets into significantly different investments in order to increase the chances for large profits, project against loss, and simplify the analysis and selection process.Diversification within a company does not accomplish the same result as diversification of investments in a portfolio. Diversification within a portfolio permits upward stock price fluctuations to offset, to some degree, downward price fluctuation and results in less volatility of investment performance of the portfolio. Although this offsetting takes place in earnings for a diversified company, it does not takes place in earnings for a diversified company, it does not take place in the stock’s price, since there is only one stock being traded.