This paper revisits an old argument, hedging real exchange rate risk, as an explanation of the international home bias in equity. In a dynamic model, the relevant risk to be hedged is the long-run risk as opposed to the short-run risk. Domestic equity is indeed a good hedge with respect to long-run real-exchange-rate risk. Two new frameworks are able to explain a large share of the observed US home bias: a model with Hansen-Sargent preferences in which agents fear model misspecification and a model with Epstein-Zin preferences. These two models are also immune to the risk-free rate puzzle. (JEL C58, F31, G11, G15)

International Portfolio Allocation under Model Uncertainty / Benigno, Pierpaolo; S., Nisticò; Nistico', Salvatore. - In: AMERICAN ECONOMIC JOURNAL. MACROECONOMICS. - ISSN 1945-7707. - 1:4(2012), pp. 144-189. [10.1257/mac.4.1.144]

International Portfolio Allocation under Model Uncertainty

BENIGNO, PIERPAOLO;NISTICO', SALVATORE
2012

Abstract

This paper revisits an old argument, hedging real exchange rate risk, as an explanation of the international home bias in equity. In a dynamic model, the relevant risk to be hedged is the long-run risk as opposed to the short-run risk. Domestic equity is indeed a good hedge with respect to long-run real-exchange-rate risk. Two new frameworks are able to explain a large share of the observed US home bias: a model with Hansen-Sargent preferences in which agents fear model misspecification and a model with Epstein-Zin preferences. These two models are also immune to the risk-free rate puzzle. (JEL C58, F31, G11, G15)
International Portfolio Allocation under Model Uncertainty / Benigno, Pierpaolo; S., Nisticò; Nistico', Salvatore. - In: AMERICAN ECONOMIC JOURNAL. MACROECONOMICS. - ISSN 1945-7707. - 1:4(2012), pp. 144-189. [10.1257/mac.4.1.144]
File in questo prodotto:
File Dimensione Formato  
Benigno-Nistico-AEJM.pdf

Solo gestori archivio

Tipologia: Versione dell'editore
Licenza: Tutti i diritti riservati
Dimensione 1.56 MB
Formato Adobe PDF
1.56 MB Adobe PDF   Visualizza/Apri
Pubblicazioni consigliate

Caricamento pubblicazioni consigliate

I documenti in IRIS sono protetti da copyright e tutti i diritti sono riservati, salvo diversa indicazione.

Utilizza questo identificativo per citare o creare un link a questo documento: http://hdl.handle.net/11385/20040
Citazioni
  • Scopus 15
  • ???jsp.display-item.citation.isi??? 15
social impact