The Effects of Strict Social Norms on Home Bias
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Abstract
Despite the documented advantages of international portfolio diversification, investors tend to over-allocate to domestic markets, leading to exposure to home bias. This paper explores the behavioral explanation of this phenomenon by investigating the relationship between cultural tightness-looseness and equity home bias. Based on foreign portfolio holdings data from 28 of the most developed markets and over the period 2001-2022, we find empirical support using the OLS methodology that investors from culturally tighter countries register higher levels of home bias, compared to investors from looser countries. In cultures where stricter social norms are imposed and little deviation is allowed, investors exhibit higher confidence in domestic returns and associate international investments as more costly. Due to higher levels of innovation and fewer behavioral constraints, investors from looser countries overcome the cost associated with the unfamiliarity of foreign stocks, managing to better diversify their portfolios internationally. Additionally, we identify that financial education and economic openness of the investor country alleviate the effect stricter norms have on home bias. The significance of the study is reinforced by the robustness tests performed, such as employing alternative measures of both our dependent and independent variables and testing the identified relationships through different estimation methods. This paper contributes to the extensive literature on home bias by identifying the strictness of social norms as a key cultural determinant in shaping international portfolio allocation and exploring channels to mitigate its effect on home bias.
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References
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Baele, L., Bekaert, G., & Inghelbrecht, K. (2007). The determinants of stock and bond return comovements. Review of Financial Studies, 23(6), 2374-2428.
Bekaert, G., & Wang, X. (2009). Home bias revisited. Journal of Empirical Finance, 16(5), 777-796.
Bellofatto, A., D’Hondt, C., & Van Achter, M. (2018). Cultural differences in investor behavior. Journal of Behavioral and Experimental Finance, 19, 75–91.
Beugelsdijk, S., & Frijns, B. (2010). A cultural explanation of the foreign bias in international asset allocation. Journal of Banking & Finance, 34(9), 2121-2131.
Bose, T. (2015). Culture and financial literacy: A cross-country analysis. Journal of Economic Behavior & Organization, 119, 123-145.
Chan, K., Covrig, V. & NG, L. (2005), What Determines the Domestic Bias and Foreign Bias? Evidence from Mutual Fund Equity Allocations Worldwide. The Journal of Finance, 60: 1495-1534.
Chen, H., Dai, Y., & Guo, D. (2023). Financial literacy as a determinant of market participation: New evidence from China using IV-GMM. International Review of Economics & Finance, 84, p. 611-623.
Cooper, I., & Kaplanis, E. (1986). Costs of cross-border investment and international equity market equilibrium. Recent Advances in International Finance, 4, 135-166.
Cooper, I. A., Sercu, P. & Vanpée, R. (2013). The Equity Home Bias Puzzle: A Survey. Foundations and Trends(R) in Finance, 7(4), 289-416.
Cooper, I. A., Sercu, P. & Vanpée, R. (2018), A Measure of Pure Home Bias, Review of Finance, 22, issue 4, p. 1469-1514.
Cupák, A. (2022). Financial literacy and the behavior of retail investors: Evidence from Central Europe. Journal of Economic Behavior & Organization, 195, 292-308.
Deckert, C., & Schomaker, R.M. (2022). Cultural tightness-looseness and national innovativeness: Impacts of tolerance and diversity of opinion. Journal of Innovation and Entrepreneurship, 11(1), 1-19.
Enke, B. (2017). Kinship, cooperation, and the evolution of moral systems. Quarterly Journal of Economics, 132(2), 1043-1091.
Eun, C.S., Wang, L., & Xiao, S.C. (2015). Culture and R2: Evidence from international stock markets. Journal of Financial Economics, 115(2), 283-303.
Fernández, A., Klein M. K., Rebucci A. Schindler M., & Uribe M., (2016). Capital Control Measures: A New Dataset. IMF Economic Review, Palgrave Macmillan;International Monetary Fund, vol. 64(3), pages 548-574, August.
Ferreira, M.A. (2011). The determinants of home bias in equity portfolios: Evidence from mutual funds. Review of Finance, 15(2), 369-400.
Fidora, M., Fratzscher, M., & Thimann, C. (2007). Home bias in global bond and equity markets: The role of real exchange rate volatility. Journal of International Money and Finance, 26(4), 631-655.
French, K.R., & Poterba, J.M. (1991). Investor diversification and international equity markets. American Economic Review, 81(2), 222-226.
Gelfand, M. J., Nishii, L. H., & Raver, J. L. (2006). On the nature and importance of cultural tightness-looseness. Journal of Applied Psychology, 91(6), p. 1225-1244.
Gelfand, M.J., Raver, J.L., Nishii, L., Leslie, L.M., Lun, J., Lim, B.C., Duan, L., Almaliach, A., Ang, S., Arnadottir, J., Chhokar, J., Cohen, D., & Ward, C. (2011). Differences between tight and loose cultures: A 33-nation study. Science, 332(6033), 1100-1104.
Giofré , M. (2017). Financial literacy and portfolio diversification. Journal of Behavioral and Experimental Finance, 13, 46-56.
Guiso, L., Sapienza, P., & Zingales, L. (2009). Cultural Biases in Economic Exchange? The Quarterly Journal of Economics, 124(3), p. 1095-1131.
Guiso, L. & Jappelli, T. (2009). Financial Literacy and Portfolio Diversification, CSEF Working Papers 212, Centre for Studies in Economics and Finance (CSEF), University of Naples, Italy.
Gunia, B.C., Brett, J.M., Nandkeolyar, A.K., & Kamdar, D. (2011). Paying a price: Culture, trust, and negotiation consequences. Journal of Applied Psychology, 96(4), 774-789.
Gyu, J. (2022). The impact of cultural dimensions on investment strategies: Evidence from global markets. Journal of Behavioral Finance, 23(2), 123-140.
Hanushek, E.A., & Woessmann, L. (2008). The role of cognitive skills in economic development. Journal of Economic Literature, 46(3), 607-668.
Hofstede, G. (2001). Culture's consequences: Comparing values, behaviors, institutions, and organizations across nations. Thousand Oaks, CA: Sage Publications.
Jappelli, T., & Padula, M. (2011). Investment in financial literacy and saving decisions. Journal of Banking & Finance, 37(8), 2779-2792.
Jones, G.R. (2006). Organizational theory, design, and change. Upper Saddle River, NJ: Pearson Education.
Kim, J. (2022). The influence of cultural distance on international portfolio diversification. Journal of International Financial Management & Accounting, 33(3), 293-317.
Kimball, M.S., & Shumway, T. (2010). Investor sophistication and the home bias puzzle. American Economic Review, 100(4), 2250-2265.
Kogut, B., & Singh, H. (1988). The effect of national culture on the choice of entry mode. Journal of International Business Studies, 19(3), 411-432.
Lane, P.R., & Milesi-Ferretti, G.M. (2007). The external wealth of nations mark II: Revised and extended estimates of foreign assets and liabilities, 1970-2004. Journal of International Economics, 73(2), 223-250.
Lane, P.R., & Milesi-Ferretti, G.M. (2008). The Drivers of Financial Globalization. American Economic Review 98 (2): 327–32.
Lubart, T.I. (2010). Cross-cultural perspectives on creativity. In J.C. Kaufman & R.J. Sternberg (Eds.), The Cambridge Handbook of Creativity (pp. 265-278). Cambridge: Cambridge University Press.
Lusardi, A., Mitchell, O.S., & Curto, V. (2014). Financial literacy and financial sophistication in the older population. Journal of Pension Economics & Finance, 13(4), 347-366.
Minkov, M., & Kaasa, A. (2022). Do dimensions of culture exist objectively? A validation of the revised Minkov-Hofstede model of culture with World Values Survey items and scores for 102 countries. Journal of International Management, 28, 100971.
Molina, J. (2023). Cultural factors and investment behavior: A cross-country analysis. Global Finance Journal, 69, 102113.
Mondria, J., Wu, T., & Zhang, Y. (2010). The determinants of international investment diversification: The role of information. Journal of International Economics, 82(2), 100-112.
Morse, A., & Shive, S. (2011). Patriotism in your portfolio. Journal of Financial Markets, 14(2), 411-440.
Nozick, R. (1974). Anarchy, state, and utopia. New York: Basic Books.
Pelto, P.J. (1968). The difference between "tight" and "loose" societies. Trans-Action, 5(5), 37-40.
Portes, R., & Rey, H. (2005). The determinants of cross-border equity flows. Journal of International Economics, 65(2), 269-296.
Pradkhan, E. (2016). Impact of culture and patriotism on home bias in bond portfolios. Review of Managerial Science, 10(2), p. 265-301.
Spolaore, E., & Wacziarg, R. (2009). The diffusion of development. The Quarterly Journal of Economics, 124(2), p. 469-529.
Stulz, R.M., & Williamson, R. (2003). Culture, openness, and finance. Journal of Financial Economics, 70(3), 313-349.
Taras, V., Kirkman, B.L., & Steel, P. (2010). Examining the impact of culture’s consequences: A three-decade, multilevel, meta-analytic review of Hofstede’scultural value dimensions. Journal of Applied Psychology, 95(3), 405-439.
Thapa, C., Vo, X.V., & Poshakwale, S. (2013). International equity flows, home bias and global equity markets. Journal of International Money and Finance, 32, 395-416.
Uz, I. (2015). The index of cultural tightness and looseness among 68 countries. Journal of Cross-Cultural Psychology, 46(3), 319-335.
Wallmeier, M., & Isel, C. (2022). Behavioral biases and home bias: Evidence from international equity funds. International Review of Financial Analysis, 81, 101934.
Wang, X. (2022). The impact of cultural factors on cross-border investment. Journal of International Financial Markets, Institutions & Money, 77, 101525.
Wei, C., & Zhang, L. (2020). Trust and Local Bias. Journal of Financial and Quantitative Analysis, 55(7), p. 2211 – 2245.
Welzel, C. (2013). Freedom rising: Human empowerment and the quest for emancipation. Cambridge University Press.
Ahearne, A.G., Griever, W.L., & Warnock, F.E. (2004). Information costs and home bias: An analysis of US holdings of foreign equities. Journal of International Economics, 62(2), 313-336.
Anderson, C.J., Miligan, K., & Stark, T. (2011). What drives home bias in equity portfolios? Evidence from international mutual funds. Review of Financial Studies, 24(4), 1088-1113.
Arnett, J.J. (1995). Broad and narrow socialization: The family in the context of a cultural theory. Journal of Marriage and Family, 57(3), 617-628.
Baele, L., Bekaert, G., & Inghelbrecht, K. (2007). The determinants of stock and bond return comovements. Review of Financial Studies, 23(6), 2374-2428.
Bekaert, G., & Wang, X. (2009). Home bias revisited. Journal of Empirical Finance, 16(5), 777-796.
Bellofatto, A., D’Hondt, C., & Van Achter, M. (2018). Cultural differences in investor behavior. Journal of Behavioral and Experimental Finance, 19, 75–91.
Beugelsdijk, S., & Frijns, B. (2010). A cultural explanation of the foreign bias in international asset allocation. Journal of Banking & Finance, 34(9), 2121-2131.
Bose, T. (2015). Culture and financial literacy: A cross-country analysis. Journal of Economic Behavior & Organization, 119, 123-145.
Chan, K., Covrig, V. & NG, L. (2005), What Determines the Domestic Bias and Foreign Bias? Evidence from Mutual Fund Equity Allocations Worldwide. The Journal of Finance, 60: 1495-1534.
Chen, H., Dai, Y., & Guo, D. (2023). Financial literacy as a determinant of market participation: New evidence from China using IV-GMM. International Review of Economics & Finance, 84, p. 611-623.
Cooper, I., & Kaplanis, E. (1986). Costs of cross-border investment and international equity market equilibrium. Recent Advances in International Finance, 4, 135-166.
Cooper, I. A., Sercu, P. & Vanpée, R. (2013). The Equity Home Bias Puzzle: A Survey. Foundations and Trends(R) in Finance, 7(4), 289-416.
Cooper, I. A., Sercu, P. & Vanpée, R. (2018), A Measure of Pure Home Bias, Review of Finance, 22, issue 4, p. 1469-1514.
Cupák, A. (2022). Financial literacy and the behavior of retail investors: Evidence from Central Europe. Journal of Economic Behavior & Organization, 195, 292-308.
Deckert, C., & Schomaker, R.M. (2022). Cultural tightness-looseness and national innovativeness: Impacts of tolerance and diversity of opinion. Journal of Innovation and Entrepreneurship, 11(1), 1-19.
Enke, B. (2017). Kinship, cooperation, and the evolution of moral systems. Quarterly Journal of Economics, 132(2), 1043-1091.
Eun, C.S., Wang, L., & Xiao, S.C. (2015). Culture and R2: Evidence from international stock markets. Journal of Financial Economics, 115(2), 283-303.
Fernández, A., Klein M. K., Rebucci A. Schindler M., & Uribe M., (2016). Capital Control Measures: A New Dataset. IMF Economic Review, Palgrave Macmillan;International Monetary Fund, vol. 64(3), pages 548-574, August.
Ferreira, M.A. (2011). The determinants of home bias in equity portfolios: Evidence from mutual funds. Review of Finance, 15(2), 369-400.
Fidora, M., Fratzscher, M., & Thimann, C. (2007). Home bias in global bond and equity markets: The role of real exchange rate volatility. Journal of International Money and Finance, 26(4), 631-655.
French, K.R., & Poterba, J.M. (1991). Investor diversification and international equity markets. American Economic Review, 81(2), 222-226.
Gelfand, M. J., Nishii, L. H., & Raver, J. L. (2006). On the nature and importance of cultural tightness-looseness. Journal of Applied Psychology, 91(6), p. 1225-1244.
Gelfand, M.J., Raver, J.L., Nishii, L., Leslie, L.M., Lun, J., Lim, B.C., Duan, L., Almaliach, A., Ang, S., Arnadottir, J., Chhokar, J., Cohen, D., & Ward, C. (2011). Differences between tight and loose cultures: A 33-nation study. Science, 332(6033), 1100-1104.
Giofré , M. (2017). Financial literacy and portfolio diversification. Journal of Behavioral and Experimental Finance, 13, 46-56.
Guiso, L., Sapienza, P., & Zingales, L. (2009). Cultural Biases in Economic Exchange? The Quarterly Journal of Economics, 124(3), p. 1095-1131.
Guiso, L. & Jappelli, T. (2009). Financial Literacy and Portfolio Diversification, CSEF Working Papers 212, Centre for Studies in Economics and Finance (CSEF), University of Naples, Italy.
Gunia, B.C., Brett, J.M., Nandkeolyar, A.K., & Kamdar, D. (2011). Paying a price: Culture, trust, and negotiation consequences. Journal of Applied Psychology, 96(4), 774-789.
Gyu, J. (2022). The impact of cultural dimensions on investment strategies: Evidence from global markets. Journal of Behavioral Finance, 23(2), 123-140.
Hanushek, E.A., & Woessmann, L. (2008). The role of cognitive skills in economic development. Journal of Economic Literature, 46(3), 607-668.
Hofstede, G. (2001). Culture's consequences: Comparing values, behaviors, institutions, and organizations across nations. Thousand Oaks, CA: Sage Publications.
Jappelli, T., & Padula, M. (2011). Investment in financial literacy and saving decisions. Journal of Banking & Finance, 37(8), 2779-2792.
Jones, G.R. (2006). Organizational theory, design, and change. Upper Saddle River, NJ: Pearson Education.
Kim, J. (2022). The influence of cultural distance on international portfolio diversification. Journal of International Financial Management & Accounting, 33(3), 293-317.
Kimball, M.S., & Shumway, T. (2010). Investor sophistication and the home bias puzzle. American Economic Review, 100(4), 2250-2265.
Kogut, B., & Singh, H. (1988). The effect of national culture on the choice of entry mode. Journal of International Business Studies, 19(3), 411-432.
Lane, P.R., & Milesi-Ferretti, G.M. (2007). The external wealth of nations mark II: Revised and extended estimates of foreign assets and liabilities, 1970-2004. Journal of International Economics, 73(2), 223-250.
Lane, P.R., & Milesi-Ferretti, G.M. (2008). The Drivers of Financial Globalization. American Economic Review 98 (2): 327–32.
Lubart, T.I. (2010). Cross-cultural perspectives on creativity. In J.C. Kaufman & R.J. Sternberg (Eds.), The Cambridge Handbook of Creativity (pp. 265-278). Cambridge: Cambridge University Press.
Lusardi, A., Mitchell, O.S., & Curto, V. (2014). Financial literacy and financial sophistication in the older population. Journal of Pension Economics & Finance, 13(4), 347-366.
Minkov, M., & Kaasa, A. (2022). Do dimensions of culture exist objectively? A validation of the revised Minkov-Hofstede model of culture with World Values Survey items and scores for 102 countries. Journal of International Management, 28, 100971.
Molina, J. (2023). Cultural factors and investment behavior: A cross-country analysis. Global Finance Journal, 69, 102113.
Mondria, J., Wu, T., & Zhang, Y. (2010). The determinants of international investment diversification: The role of information. Journal of International Economics, 82(2), 100-112.
Morse, A., & Shive, S. (2011). Patriotism in your portfolio. Journal of Financial Markets, 14(2), 411-440.
Nozick, R. (1974). Anarchy, state, and utopia. New York: Basic Books.
Pelto, P.J. (1968). The difference between "tight" and "loose" societies. Trans-Action, 5(5), 37-40.
Portes, R., & Rey, H. (2005). The determinants of cross-border equity flows. Journal of International Economics, 65(2), 269-296.
Pradkhan, E. (2016). Impact of culture and patriotism on home bias in bond portfolios. Review of Managerial Science, 10(2), p. 265-301.
Spolaore, E., & Wacziarg, R. (2009). The diffusion of development. The Quarterly Journal of Economics, 124(2), p. 469-529.
Stulz, R.M., & Williamson, R. (2003). Culture, openness, and finance. Journal of Financial Economics, 70(3), 313-349.
Taras, V., Kirkman, B.L., & Steel, P. (2010). Examining the impact of culture’s consequences: A three-decade, multilevel, meta-analytic review of Hofstede’scultural value dimensions. Journal of Applied Psychology, 95(3), 405-439.
Thapa, C., Vo, X.V., & Poshakwale, S. (2013). International equity flows, home bias and global equity markets. Journal of International Money and Finance, 32, 395-416.
Uz, I. (2015). The index of cultural tightness and looseness among 68 countries. Journal of Cross-Cultural Psychology, 46(3), 319-335.
Wallmeier, M., & Isel, C. (2022). Behavioral biases and home bias: Evidence from international equity funds. International Review of Financial Analysis, 81, 101934.
Wang, X. (2022). The impact of cultural factors on cross-border investment. Journal of International Financial Markets, Institutions & Money, 77, 101525.
Wei, C., & Zhang, L. (2020). Trust and Local Bias. Journal of Financial and Quantitative Analysis, 55(7), p. 2211 – 2245.
Welzel, C. (2013). Freedom rising: Human empowerment and the quest for emancipation. Cambridge University Press.