Home Country Bias
The activities of most investors have historically been limited to their home country. This is largely because earlier, there were rules which made the transfer of capital between countries an arduous process. Not only was the process complex, but it also took a lot of time and was riddled with transaction costs. This is the reason that over the years, investors have become accustomed to considering investment options only from their home country.
However, the reality is the investment world has undergone a sea of change in the past few years. Investors now have access to investment options from all across the globe. Also, the process is as inexpensive and hassle-free as local investments. Years of conditioning have created an investor psyche wherein they simply subconsciously omit investment options from other countries. In this article, we will have a look at this phenomenon as well as how it impacts the behavior of investors.
What is Home Country Bias?
Simply put, home country bias is a tendency to place excessive emphasis on the investment options of ones own country. Home country bias is mostly an emotional reaction as it helps investors feel safe if they invest in their own country. Some investors are simply indifferent to the existence of investment options in other countries. However, there are some others who acknowledge these options but then choose not to invest in them because of their behavioral biases. This is the reason that investors all over the world allocate more than two-thirds of their portfolio to investments from their home country. It is strange that this trend encompasses both developed as well as developing nations. Investors in developed nations are willing to forego growth, whereas the ones in developing nations are willing to forego security but prefer to invest in their respective countries.
How Does Home Country Bias Affect Investor Behaviour?
Home country bias might seem innocuous at first. However, the reality is that it can have a devastating impact on the portfolio of many investors. The reasons for the same have been mentioned below:
Home country bias makes the investor myopic. Traditional economics assumes that investors would chase higher returns across national boundaries since they are rational. However, the reality is that many prefer to have sub-optimal gains since they simply overlook the investments available outside the home country.
How Can Home Country Bias Be Avoided?
A lot of investors have been able to overcome the home country bias with knowledge and help from their advisors. The advisors have explained to them that there are financial products that can be used to manage the risks. Financial investors often introduce investors to others who have put their hard-earned money in international markets and hence are reaping higher returns.
The fact of the matter is that the home country bias is an emotional response to investments. It can only be mitigated with a rational response. Since knowledge is the basis for also rational responses, it is the most effective tool in the fight against this bias.
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