Changes in tax laws affecting returns on portfolio investments, such as withholding tax on dividends and interest for non-resident aliens. Some U.S. experts (all with a vested interest in seeing the tax eliminated) have estimated that $4-6 billion of additional capital would be shifted to the U.S. if the withholding tax were removed. Such a figure should be carefully analyzed to determine which countries would contribute this capital, and into what types of securities. (Bonds have been discussed above; and the level of investment in bonds would clearly increase. However, little evidence was found to support an increase in the level of investment in common stocks.) Some investing countries (United Kingdom, for example) have offsetting taxes; therefore the investor will be taxed the same amount in any case. A number of major investors said that removal of the withholding tax would have little or no effect on their investment strategy. Most acknowledge, nonetheless, that removal might have/ an impact on portfolio composition; for example, one could anticipate

a shift of the U.S. common stock portfolio into stocks with high dividend rates (e.g., utilities).*

See "Legal Aspects of Foreign Portfolio Investment in the United States" for additional discussion of the impact of the withholding tax.

Changes in local currency controls and exchange rate rules

or laws (or "guidelines" in Japan). From time to time, certain

countries have imposed restrictions on outward capital flows to improve their balance of payments positions. Italy, the United Kingdom, Japan, and many other countries have such restrictions today. In the U.K., the present restrictions force repatriation of 25% of the proceeds of any sale of foreign securities at the "official" exchange regardless of the premium being paid at the time for so-called "investment currency". During one period in 1975, an investor had to show a gain of 11% on any foreign investment transaction in order to break even. As a consequence, these restrictions doubtless affected composition as well as level of investment. Under such conditions, investors are apt to seek smaller companies with exceptional growth potential.

Distance from the U.S.

Physically, Linguistically, ·

Culturally, and Philosophically. A strong correlation appears to exist between the degree of "closeness" to the U.S. in terms of the above factors and the level of investment in the U.S. When Canadian portfolio managers "invest abroad", for example, almost all of their

"foreign investment" is placed in U.S. securities. In the U.K., the U.S. share of foreign investment is less than in Canada, but more perhaps than in any other country. In addition, not only is it easier for English-speaking investors to understand the U.S. markets and opportunities better, it is also far easier for U.S. brokers and corporate executives to promote their ideas. Of the non-English-speaking countries, Switzerland is far ahead of the rest and Japan shows the greatest potential for overcoming these barriers. One Japanese brokerage firm, for example, sent over 100 account managers on a short visit to the U.S. to render them better able to discuss the potential for investing here.

Portfolio diversification objectives. International diversification has already been presented as a primary reason for investing in the U.S. The desire to achieve industry diversification can also increase the level of investment. Only the United States market offers significant opportunities to invest in broadly diversified companies such as conglomerates. For those investors who make industry decisions first and national decisions second, a decision to purchase such securities would require an increase in the level of investment in the U.S. For investors who make national

allocations first, this decision would only impact the composition of the U.S. portfolio.

Changes in the amount of wealth to invest. Investors review

the factors discussed above to decide the amount of funds to invest in

a given country. Since different investors view these factors differently, changes in the amount of wealth to invest will affect the amount of investment in the U.S. Such changes have been caused by the sudden movement of capital into Switzerland, and recent capital surpluses accruing to

certain OPEC countries.

2.

The previous section discusses institutional factors which influence foreign portfolio managers to invest in the U.S. market rather than

those of other countries. This section examines factors which affect

primarily the composition of portfolios regardless of the country.

In general, the foreign investor chooses the composition of his portfolio in much the same manner as his U.S. counterpart. First, he allocates his funds among various investment vehicles (chiefly stocks and bonds, but also options, warrants, and other special purpose instruments). Second, within investment type, money is divided among industries, and among specific securities within each industry.

A.

Some factors which affect the vehicle decision include:

The investment objectives and willingness to bear risk.

Investors desiring income and capital preservation tend to invest more heavily in bonds. Those desiring capital growth tend to choose equities.

The perception of future monetary and fiscal policy. Monetary policy has a direct impact on interest rates, and therefore influences bond prices. An anticipated change in monetary policy can cause shifts in portfolio composition. Fiscal policy tends not to have as direct an impact. However, changes in fiscal policy affect a country's economy and therefore can influence equity performance.

The tax treatment of investment and income flows by the

investor's country. Tax laws influence portfolio composition because in most countries, capital gains are taxed differently than income. For example, a high tax on income and a low tax on capital gains might

allow an investor to achieve a better return in equities for a given

amount of risk, even though he would have preferred bonds in the

absence of taxes.