Home Bias and High Turnover in an Overlapping Generations Model with Learning

32 Pages Posted: 23 Nov 2003

See all articles by Massimo Guidolin

Massimo Guidolin

Bocconi University, Dept. of Finance; Bocconi University - CAREFIN - Centre for Applied Research in Finance

Date Written: January 2003

Abstract

This paper develops a two-country OLG model under the assumption that investors are on a Bayesian learning path. While investors from both countries receive identical information flows, domestic investors start off with less precise prior beliefs concerning foreign fundamentals. On a learning path, differences in beliefs and estimation risk generate portfolio biases similar to those observed empirically: home bias in equity portfolios and trend-chasing in international flows. In addition, due to the higher volatility of the estimates of foreign state variables, our model produces excessive turnover in foreign securities as reported by Tesar and Werner (1995). We use real GDP data for the US and Europe to calibrate the model and produce simulations that show that under the assumption of a financial liberalization during the 1970s, substantial home bias and excess turnover should have been observed in the subsequent years.

Keywords: Home country bias, International Asset Allocation, Bayesian learning

JEL Classification: F3, G11, D83

Suggested Citation

Guidolin, Massimo, Home Bias and High Turnover in an Overlapping Generations Model with Learning (January 2003). Available at SSRN: https://ssrn.com/abstract=471928 or http://dx.doi.org/10.2139/ssrn.471928

Massimo Guidolin (Contact Author)

Bocconi University, Dept. of Finance ( email )

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Bocconi University - CAREFIN - Centre for Applied Research in Finance

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Milan, 20136
Italy

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