Philippe Bacchetta (University of Lausanne, CEPR):
International Portfolio Choice with Frictions: Evidence from Mutual Funds
Co-authors: Simon Tièche (University of Lausanne) and Eric van Wincoop (University of Virginia, NBER
Abstract
Using data on international equity portfolio allocations of US mutual funds, we estimate a simple portfolio expression derived from a standard Markowitz meanvariance portfolio model extended with portfolio frictions. The optimal portfolio depends on two benchmark portfolios, the previous month and the buy-and-hold portfolio shares, and a present discounted value of expected future excess returns. We show that equity return differentials are predictable and use the expected return differentials in the mutual fund portfolio regressions. The estimated reduced form parameters are related to the structural model parameters. The estimates imply significant portfolio frictions and a modest rate of risk-aversion. While mutual
fund portfolios respond significantly to expected returns, portfolio frictions lead to a weaker and more gradual portfolio response to changes in expected returns. We also document heterogeneity across funds. Larger funds face bigger portfolio frictions, while small funds, more active funds and emerging market funds give relatively less weight to the buy-and-hold portfolio (rebalance more aggressively).
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