INDUSTRY AND COUNTRY EFFECTS IN INTERNATIONAL STOCK RETURNS - IMPLICATIONS FOR ASSET ALLOCATION

Which allocation is more important in an international portfolio, industry or country? This article presents a simple method for answering this question by decomposing returns into a common factor, industry factors, and country factors. The authors characterize the choice of industry and country allocation in terms of benchmark tracking errors, and from the perspective of achieving the maximum benefits of diversification. The analysis suggests that there are several reasons to pay more attention to the geographical than to the industrial composition of international portfolios.