Can Advanced Markets Help Diversify Risks in Frontier Stock Markets? Evidence from Gulf Arab Stock Markets
Research in International Business and Finance, Forthcoming
37 Pages Posted: 22 Sep 2012 Last revised: 11 Apr 2013
Date Written: May 1, 2012
Abstract
This study examines portfolio diversification benefits in the frontier Gulf Cooperation Council (GCC) stock markets, using two diversification measures: the correlation index and return dispersion. The findings suggest a strong link between market volatility and the cross-sectional distribution of returns in all markets, with the exception of Bahrain, indicating that investors in these frontier markets will face significant challenges achieving desired levels of diversification using domestic stocks only. However, I also find that significant amount of market risk in these countries can be eliminated by supplementing domestic portfolios with positions in advanced markets. In all GCC markets except Dubai and Abu Dhabi, S&P 500 index futures provide the best risk reduction potential whereas crude oil futures are found to be the most effective instrument in the case of Dubai and Abu Dhabi.
Keywords: Portfolio Diversification, Downside risk, Return dispersion, Correlation index, GCC
JEL Classification: G11, G15
Suggested Citation: Suggested Citation