Determinants of cross-border equity flows

Portes, R and Rey, H (2001) Determinants of cross-border equity flows. Working Paper. London Business School Economics Discussion Paper Series.

Abstract

We explore a new panel data set on bilateral gross crossborder equity flows between 14 countries, 198996. We show that a 'gravity' model explains international transactions in ficial assets at least as well as goods trade transactions. Gross transaction flows depend on market size in both source and destination country as well as trading costs, in which both information and the transaction technology play a role. Distance proxies some information costs, and other variables explicitly represent information transmission, an information asymmetry between domestic and foreign investors, and the efficiency of transactions. The remarkably good results have strong implications for theories of asset trade. We find that the geography of information is the main determit of the pattern of international transactions, while there is weak support in our data for the diversification motive, once we control for the informational friction. We strengthen our conclusions by investigating in another data set the ability of our information variables to explain transactions in classes of assets with different informational content (corporate bonds, equities and government bonds). Finally, we broaden the scope of our results by presenting some evidence linking the results on equity transactions to equity holdings.