Some financial sites publish each day the list of ten or so most viewed by surfers investors securities (those securities that surfers consult to determine the evolution of their share price or to read the articles and press news about them). Nine times out of ten, those are American companies, and seven out of ten at least, they are local businesses.
Investors from the United States, Canada, Mexico and elsewhere – would they be nationalist and patriotic for investment?
Do they adhere to the philosophy of “buy from us”, as proposed at one time the unions when they believed firmly that buying goods and services locally was the best way to keep jobs in the country?
Whether professional or amateur, investors have a preference for companies to their region, a “home bias” as the US economists call it, or is it because the advantages outweigh the disadvantages?
In all countries, investors prefer to buy shares of local companies rather foreign ones.
In the US and Canada, as in most other developed countries, the practice of investment also has a strong regional coloring. Investors in California (a state with high concentration of high-tech companies) are more likely than investors in other US states to invest in high-tech shares. Investors of New York City, due to the strong presence of financial companies in this city are more likely to invest in the securities of the financial sector. In Canada, Alberta investors have a strong attraction for oil companies, and investors in the Abitibi region of Quebec are fond of mining companies. Among Americans, possessing American companies’ shares is the norm.
A study of Poterba estimated 92.2% of US equities in the portfolio of US investors. When we look at the side of the other four largest stock markets in the world, the preference for securities of local companies is just as strong: 95.7% of Japanese securities are found in the portfolios of the Japanese, 92% of English titles in the portfolios of the English, 89.4% of French shares in the portfolio of the French and 79% of German equities in the portfolio of the Germans.
Despite the proximity and accessibility of the vast US market, it would not be surprising if a corresponding study revealed that the portfolios of Canadian and Quebec investors (outside their RRSPs) are composed of more than 80% by Canadian and Quebec shares.
From a strict viewpoint of risk / return, we cannot say that retail investors respect the principles of international portfolio diversification. Yet, it was pretty well demonstrated that the international portfolio diversification increases performance.
The steeple spirit observed among individual investors would not be clean. It is also found, although to a lesser degree. among institutional investors.
The study by Chan and Covrig (2004) based on data gathered from 26 developed or developing countries showed that mutual fund managers of all countries, without exception, have a penchant for domestic companies; inclination which, according to two researchers, is frankly disproportionate from the perspective of good diversification.
In the US, mutual fund managers are attracted to companies that are in their city, region or state. This strategy also succeed with them very well, as these securities perform better than those companies located in other cities and more remote states (Coval and Moskowitz, 1999).
The picture was the same among US individual investors. The titles of local companies in their portfolio (companies located in an area close to not more than 250 miles from the place of residence) perform better than the securities of non-local companies by a margin of 3.2 percentage points per year on average (Ivkovic and Weisbenner, 2003). This gain is all the more important that we know that over 30% of the securities held by the Americans are those companies located in the perimeter close to 250 miles.
There are two dozen studies on this local bias phenomenon observed in all developed markets in the world. Before the 1980s, this local favoritism among investors was mainly due to the constraints and technological and legal barriers we encountered when it came time to invest abroad. Today, financial economists are looking for other reasons to explain the behavior of investors.
One would hesitate to say that these parochial investors base on nationalist or patriotic motivations. Investors are looking to satisfy their interests first, before thinking of workers or their country. And the perception they have of their interests pushes them to favor companies in their area before looking at the neighbors.
This attitude of “buy-in me-first” is mainly the result of a proximity effect or a sense of knowledge: we prefer the securities of US companies because the US media talks about it more, because we have a good chance to consume their products and services, because we know a lot of people who work at AT&T, Intel and Walmart, as well as Google or Verizon Communications, or because their share issues are made by our banks and financial institutions, because they broadcast their financial information in English, because one is more exposed to their ads, and finally because we feel that the government and the US regulators can better protect our rights and interests in relation to our companies as compared to Canadian, French or Japanese companies.
In short, we like our local companies because we feel we know them better. And as we know them better, we get better returns since we believe that we invest wisely.
Is that the best yields obtainable on our domestic securities (or the securities of the companies in our area) are explained only by the best knowledge we have? Some researchers doubt it.
Throughout the West, individual investors do not seem to manage their portfolios of foreign securities in the same way or with the same approach as their domestic portfolios. In the US, the turnover rate of portfolios of foreign securities is twice as high as that of the portfolios of domestic securities. As for our Canadian neighbors, the study of Tesar and Werner shares published in 1995 shows that among Canadian individual investors, the rotation of foreign securities is ten times higher than the turnover of their domestic shares. We know that the transaction rates achieved on a portfolio is not without effect on its performance.
The Odean and Barber California researchers have shown that more investors multiply transactions on their portfolios are less good yields. It is primarily for this reason that women perform better returns than men; they do not have a habit to compromise as frequently as men.
Thus, the best yields obtainable on our portfolios of domestic securities simply explained by the fact that we approach “buy-and-hold” on the local or domestic level, while one adopts approach more “speculative” or aggressive internationally.
Despite the globalization of financial markets and deregulation that has been known in most liberal democracies, the individual investor is still very cautious when it comes time to buying securities of foreign companies. Language, culture and distance will always be, for many, painful barriers to cross.