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SECTION III

WHY FOREIGNERS INVEST IN THE UNITED STATES

In the course of this study, most of the interviewees were asked to respond

to a questionnaire. The purpose of the questionnaire was to evaluate the relative

importance of different factors affecting foreign portfolio investment. A summary

of the responses of foreign investors is shown in Figure 2. This chart indicates

that the main reasons why foreigners invest internationally are to preserve

capital, to achieve long-term capital growth, and to be harbored in countries that

are politically and economically stable. Perhaps the most important reason of

all, however, is simply to achieve the greater rewards, or reduced risks, of

international diversification. This concept is not well understood by U.S. port

folio managers in general, and yet is almost taken for granted by their foreign

counterparts.

Figure 3 shows U.S. portfolio managers' responses to the same questionnaire.

The most significant difference, the importance to foreign investors of long term

capital growth, is discussed later in this section.

Many foreign funds are invested 20% to 80% internationally; typically, the

U.S. accounts for about half of this investment. The purpose of this section

is to examine in some detail the reasons why foreign portfolio managers invest

internationally, and especially in the U.S. The most important reasons are

reviewed below:

15

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TABULATION OF FOREIGN PORTFOLIO MAIJA (YERS RESPONSES TO THE QUESTION "DO YOU AGREE THAT THE FOLLOWING FACTOR IS AN IMPORTANT CONSIDERATION AFFECTING FOREIGN PORTFOLIO INVESTMENT ?"

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80

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Strongly Disagree

57% 13% 78% Strongly Agree

Strongly Disagree

Strongly Agree

Strongly Disagreo

50%V 23% 717%, Strongly Agree

IN Strongly Disagree

5103,3103 103 Strong iy Agree

Strongly Disagree

12. Political and Economic Stability

13. Availability of Natural Resources (other than energy)

100

14. Responsiveness of Central Banks'

Credit Policies

15. Availability of Human Resources

(Technological skills, etc.)

6. Cor.centror on Opportunities

1:3

11. Lows Which Pertain to Securities

Tronscctions or.d Regulotions

:29

100

100

100

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Note: The total number of respondent raprocented in the above results i. 51.

FIGURc 3 TABULATION OF RESPONSES OF U.S. PORTFOLIO MANAGERS AND INTERMEDIARIES TO THE QUESTION "Do You AGREE THAT THE FOLLOWING FACTOR IS AN IMPORTANT CONSIDERATION AFFECTING FOREIGN PORTFOLIO INVESTMENT?

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Strongly
agree

Strongly
Disagree

Strongly Agree

Strongly Disagree

Strongly Agree

Strongly Disagree

Strongly Agree

Strongly Disagree

Strongly Agree

Strongly Disagree

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1.

Diversification of Investment Portfolios Internationally
Improves Performance or Lowers Risk

An important concept still largely in the theoretical stages is

based on the fact that the capital markets of the world do not move up

and down in perfect synchronization. The degree to which these markets

are not synchronized (this degree is measurable in statistical terms)

provides opportunities to improve risk-reward ratios.

The same principle is involved when a U.S. portfolio manager diversi

fies by investing in different industries. Considerable analytical effort

is devoted to ensure that the performance of the different industries in

vested in are not too closely tied to each other. Otherwise, the investor

may as well concentrate in what he believes to be the best industry rather

than diversify in the first place.

One U.S. mutual fund manager has studied the benefits of international

diversification extensively. He states that portfolio managers could achieve

"perhaps a 20% to 40% reduction in portfolio variability or risk without

sacrificing return." He also says, however, that "thus far the U.S. invest

,

ment community has reacted with a great collective yawn." Ironically, the

theoretical aspects seem to have been analyzed more thoroughly and been

better understood by U.S. analysts; the practical aspects, however, are

definitely better applied by foreign investment portfolio investors.

(Paradoxically, U.S. firms engaged in direct investment abroad appear to

have a sophisticated and highly developed understanding of the practical

benefits of international investment.)

2. Expectations for Long-Term Capital Growth

Almost every foreign portfolio manager cited "long-term capital gains"

as the major objective of investments in the U.S. (see Figure 2). Inter

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estingly, U.S. managers don't believe that this objective is as important

to foreigners (Figure 3). The discrepancy may be explained by the dif

ferent interpretation each places on the phrase. A long term growth

strategy for U.S. investors is to buy and hold stocks in companies whose

earnings are expected to grow, until such growth is reflected in the stock

price. A long term growth strategy for foreign investors is to commit invest

ment funds to a growing market, but not necessarily to specific securities.

Consequently, their investment strategy includes taking short-term profits

in particular securities when they occur, while nonetheless preserving the

objective of long-term capital growth. This strategy is made possible be

cause foreign portfolio investors are exempt, in the majority of cases, from

U.S. capital gains taxes on security transactions. (See also the tax section

in "Legal Aspects of Foreign Portfolio Investment in the United States.")

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