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Chapter 34.docx

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University of Manitoba
Management Info. Systems
MIS 4500
Pourang Irani

Chapter 34: International Equity Benchmarks:  Need for Float Adjustment: consider cross-holdings; no int’l equity benchmark uses full cap any more  Trade-Offs in Constructing Int’l Indexes: o Breadth v. investability: consider illiquidity of smallest-cap in emerging markets o Liquidity and crossing opportunities v. index reconstitution effects: most popular and widely used indexes and benchmarks have greater index level liquidity for investors seeking to buy or sell index fund position or actively managed position resembling index  also program/portfolio trades: crossing, but with a broker  reconstitution effects: upward price pressure on stocks chosen for inclusion in index and vice versa o Precise float adjustment v. transaction costs from rebalancing: no longer matter of controversy: all indexes have some float adjustment  float bands allow for less transaction costs o Objectivity and transparency v. judgment:  Emerging market benchmark: MSCI EMF for emerging markets (similar to MSCI EAFE for developed markets)  some transaction costs and reconstitution effects in index changes Market integration and liberalization:  financial liberalization: allowing inward and outward foreign equity investment  market prices can change upon announcement of liberalization or as soon as investors anticipate liberalization may occur in the future  expected returns should decrease as volatility decreases; but may become more sensitive to world events (increasing covariance w/ developed markets)  Barriers to integration: o legal barriers treating foreign and domestic investors differently o indirect barriers from differences in available info, accounting standards and investor protection o emerging market risks: liquidity, political risk, economic policy risk, currency risk Financial Effects of Market Integration:  Liberalization and returns: o dividend yields decline after liberalization but by less than 1% on average o possibility that pre-liberalization returns already biased from integration o unconditional correlations and betas increase after liberalization  liberalization and capital flows: o net capital flows to emerging markets increase rapidly after liberalization, but level out after 3 yrs o concern that portfolio flows are not as “sticky” as fdi  liberalization and political risk: o some evidence country ratings significantly increase (lower risk) w/ equity market liberalization  liberalization and diversification benefits: small but significant increase in conditional correlations and reduced diversification benefits Real Effects of Financial Market Integration: inflow of foreign investment, boom, currency appreciation Contagion:  speculative attacks on the currency? o after gov’ts follow policies inconsistent w/ peg? o as self-fulfilling: investors just decide to speculate against and cause crisis?  if self-fulfilling, then channel for contagion  income effect channel: reduced growth and lower income levels after crisis reduce demand for imports from other countries  “wake up call” channel: second country also experienced similar negative macroeconomic conditions or followed similar inconsistent policies  other channels: credit crunch; forced-portfolio recomposition or liquidity effect Other issues:  Corporate finance: emerging markets as testing ground for legal institutions / agency theories  Fixed Income: high correlation b/w emerging market debt and equity returns  Market Microstructure: price discovery; liquidity  Stock Selection: information asymmetry; returns not explained by traditional asset pricing models  Privatization: transfer of productive resources from public sector to private sector Diligence on Alternative Investments: 1. market opportunity 2. investment process 3. organization 4. people 5. terms and structure 6. service providers 7. documents 8. write-up Also:  tax issues  determining suitability  communication w/ client  decision risk  concentrated equity position of client in closely held company Real Estate:  types: o direct: residences, commercial real estate, agricultural land o indirect:  homebuilders, real estate operating companies, etc.  REITs  Equity REITs own and manger office buildings, apartment buildings, shopping centers, etc.  Mortgage REITs invest >75% of assets in mortgages; lend money to builders and make loan collections  Hybrid REITs: operate real estate and buy mortgages  Commingled real estate funds (CREFs )  Opened ended and closed ended (closed are usually leveraged)  Private investment vehicles  Separately managed accounts  Infrastructure funds:  Designs, finances, and builds projects  Financed by debt and equity  Leased to public sector to operate; allows public sector to avoid raising debt  Benchmarks and historical performance: o Direct real estate: in U.S.: National Council of Real Estate Investment Fiduciaries (NCREIF) Property Index;  Value weighted  Includes subindices for apartments, industrial, office and retail and by
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