Emerging Asia equity home bias and financial integration created by Rogelio V. Mercado

Equity home bias remains a phenomenon and a puzzle. Recent studies show the importance of financial integration in explaining the observed decline of equity home bias in advanced economies. This paper takes a step in understanding this relationship in the context of Emerging Asia. Stock market ratios and the mean-variance approach are used to construct measures of equity home bias; while foreign direct investments and time-varying global betas are used to derive measures of financial integration. These measures provide evidence that equity home bias has declined in recent years and progress has been made toward greater financial integration in the region. Fixed-effects panel regression was used to determine whether the factors that contribute to the decline of the bias in advanced economies – including financial integration – are relevant for Emerging Asia. Results show that a higher initial level of equity home bias and a greater financial integration lower the bias; while a larger stock market raises it. These findings concur with those for advanced economies. As in advanced economies, better quality of institutions and larger bank assets generally lower equity home bias, although insignificantly. However, unlike in advanced economies, country-specific risks are important in explaining the decline of the bias in Emerging Asia.