The interviews combined the benefits of both unstructured and structured

techniques. For the most part, the interviews were unstructured and notes

were edited and organized for the final report. The structured portion of the

*

interviews consisted of two questionnaires to which most interviewees were asked to respond; one questionnaire asked foreign portfolio managers to assess the relative importance of 15 different factors influencing foreign portfolio investment (see Section III); the second questionnaire assessed the relative importance of 8 considerations affecting the choice of a U.S. broker or other intermediary (see Section V).

The most notable characteristic of foreign portfolio investment in the U.S. is its relatively recent rapid growth. From the end of World War II until 1957, there was very little foreign portfolio investment activity in the U.S. because of the tremendous post-war need for internal capital, and the consequent exchange controls that limited investment abroad by residents of most major countries. However, as exchange controls were eased and savings began to accumulate, mutual funds sold in Europe but invested in U.S. securities gained a foothold. U.S. brokers claim that the first substantial movement of portfolio capital into the U.S. since World War II began in the early 1960's. From 1955-1965,

See text of questionnaires in Appendix A.

various tax treaties were signed which reduced U.S. taxes on interest and

dividends for foreign investors in many countries; this may have led to increased portfolio investment flows from those countries that had no offsetting

tax.

In 1968, net foreign investment in U.S. securities was sizable for the first time since World War II. Typically, foreign investment strategies were said to be similar to those prevailing in the U.S. at that time; i.e., highly performance-oriented. The market drop of 1969-70 stemmed the flood. In addition, while technically not involving a U.S. mutual fund, the IOS/Cornfeld debacle brought U.S. mutual fund business overseas to a standstill.

Many financiers believe the devaluations of the dollar, first in 1971, and again in 1973, had a dramatic impact on the attitudes of foreign investors. Some foreign investors, for example, claim to have slowed or reversed investment flows to the U.S. in anticipation of devaluations. More recently (especially during 1975) they claim to have increased their level of investing in the U.S. to take advantage of "bargains" on the assumption that the U.S. dollar had dropped too far and would soon recover. (Of course, these comments are subjective and not readily susceptible to quantification. For complete analysis of the subject in terms of both gross and net investment, one would also have

to compare foreign actions with those taken by U.S. investors during the same period.)

For the period 1969-1974, foreign investors' net purchases of U.S. stocks averaged approximately $1.5 billion per year, reaching a peak of $2.8 billion in 1973. After a sharp drop in the bear market of 1974, this figure soared to $4.4 billion in 1975. At the same time foreign portfolio managers have been investing heavily in the U.S., there has been a simultaneous flow of U.S. money into foreign assets, mainly in the form of direct investment and purchases of foreign and international bond issues. Those interviewed believed that the dramatic increase in foreign investment has been due in part to the belief that the world is entering a period of comparative stability in international currencies. Other factors cited include the relative degree of political stability, lower inflation rates, and the long-term growth prospects of the free world's security

markets.

Roughly a third of the total portfolio investment opportunity in the free world is outside the U.S.; two-thirds is inside. Clearly, the portfolio managers of the world, both foreign and domestic, have the power to shift many billions of portfolio capital either into or out of the U.S. The remainder of this report reviews their objectives as well as the procedures followed, the constraints imposed, and other important influences on the process of foreign portfolio

investment in the U.S.

SECTION II

SUMMARY

International portfolio managers behave differently from one country to the next. In some cases, such differences are mandated by law; in other cases, the differences simply reflect different historical backgrounds, cultural differences, and attitudinal differences. Figure 1 summarizes the most relevant features of those countries responsible for a large percentage of total foreign portfolio capital flows into the U.S. The summary suggests two points that underlie this entire subject.

1. Portfolio capital enters the U.S. for different reasons and in varying amounts because of fundamental differences between investing countries.

2. Many of the most significant characteristics are changing all the time; sometimes quite abruptly and visibly as in the case of laws pertaining to currency controls and exchange rates; sometimes slowly and imperceptibly as in the case of

attitudes.

This section highlights the most significant of these factors. As mentioned previously, the results of this study are based primarily upon interviews

in the fall of 1975 with financiers throughout the free world. In other words,

8

Strict controls imposed on outward investments.

Very little local management of investments in foreign countries; U.S. and Swiss intermediaries are used extensively.

JAPAN After World War II, the U.S. "fashioned the Japanese financial system after our

own image".

99 of the 300 largest free-world corporations outside of North America are Japanese. Government and business work closely together to set and achieve common goals. The four or five wealthiest families each control similar financial organization which include a banking corporation, a brokerage firm (and a U.S. subsidiary), an insurance company and an investment trust. The investment trusts and insurance companies are the major portfolio investors overseas.

UNITED KINGDOM

The British have been investing overseas for hundreds of years; they have excellent investment management.

Private capital in England is trapped by exchange controls and taxation.

One legal mechanism for investing is to hypothecate British securities and borrow abroad.
No outflow of currency results.