THE EURO AND PORTFOLIO CHOICES; A NORDIC PERSPECTIVE

This paper investigates four fundamental questions concerning the benefits from international equity market diversification currently and after the EMU for the four Nordic countries of Denmark, Finland, Norway, and Sweden: (1) how beneficial is international diversification currently, and after the EMU; (2) are the benefits lower during periods of high market volatility; (3) how important is currency risk for the Nordic countries with their distinctly different currency regimes; and (4) should Nordic investors follow different optimal portfolio strategies because of their home country's special status regarding the EU and EMU? We start by an investigation of time-varying stock market volatility and co-movement between the Nordic markets and European and international benchmarks. We find a significantly positive long-run time trend, but no distinct time trend during the 1990?s. However, we do find a significant relationship between volatility and stock return co-movement. Contrary to Solnik, Boucrelle and Le Fur (1996), domestic volatility does not seem to be a determinant of international co-movement, whereas international volatility is highly significant, indicating lower diversification benefits during periods of high international volatility. The Nordic countries do not seem to differ much from each other in terms of the importance of currency risk for international investments, and its mainly is the case of investments outside Europe that currency risk starts to play a more important role. The results for ex ante strategies support international diversification by demonstrating the robust superiority of the global minimum variance (MVP) strategy in its unhedged and hedged form for each Nordic country. The relative weights of different investment regions in MVP are surprisingly similar for all Nordic countries suggesting EU and EMU related currency effects play a secondary role in effective international diversification.