The changing benefits of global equity investing: Developed and emerging markets, 1997–2007

Are there any long standing benefits in international equity investing? Did the acceleration of global financial integration bring clearly measurable benefits to international equity investors? Is there a convergence of equity market profitability around the world? These are the main questions of this paper. All of these questions got an affirmative answer, but, as it may be immediately suspected, many durable qualifiers and caveats apply. Section 1 reviews some key propositions of modern investment theory and some recent evidence on the benefits of international asset allocation on equity markets. It is argued that the desired benefits — as predicted by theory — can be and have been captured in terms of better risk/return trade-offs due to international diversification of equity portfolios. Manifest benefits aside, however, many dampening factors come into play when considering long term capacities of realising these benefits. Mainly the changing correlation structure of global markets and the increased currency risk, which still remained very difficult to hedge, were identified as permanent factors to limit the power of international diversification in pushing out the efficient frontier of the equity set. Section 2 presents comparative evidence on global equity markets’ performance and gives an account of the wide variations in the US dollar denominated returns of major markets, developed and emerging. There is some support to the view that a certain convergence can be depicted in the profitability levels of different markets. Exchange rate movements, however, accounted for almost one third of variations in profitability on average. As of April 2007, stock market valuations did favour emerging markets (and to some extent EU-27) when compared to Japan or the US.