When I was working in a small IT Project, the manager did not want anyone to leave our team as he believed he has the best team, and it is not possible to get such team members if they leave the project. Another colleague in the team commented, “indian IT professionals are the best, and professionals from any other country cannot compete with indian IT professionals!”. So, people around you are the best people in the world and your country is the best in the world…..…….A investor also thinks in similar lines, and this is called Home Bias in investing. This kind of thinking may have served the caveman well, giving them confidence boost, but it places investors at a higher risk when it comes to investing.
Home Bias is widespread among investors, vast majority of the people invest in their own country, some may do so with good reason, to avoid tax headaches, however many do so because of familiarity. Many investors even invest heavily with their employers by buying into their employer’s share buying schemes. They feel that they know their companies well and can trust them, but did the employees of Enron and Satyam know what is coming their way ?
Why home bias is not sound investment principle ?
The chances that your company being the best is low statistically speaking. Even if it is so, there is no reason to believe that your company will be the best in the future, Nokia is prime example. Same holds good for countries as well, Japan is a good example, Nikkei is was one of the best performing stock market till 1990, however those who have invested at its peak in 1990 suffered irreversible losses in the next 2 decades. There is no good reason to believe that your company/country will do best of all the companies and countries in the world.
How does Home bias place an investor at higher risk ?
Investing in stock market is risky, Investor should spread his bets across different assets so that returns are less volatile. Foreign stocks helps you place your bet in a number of countries, decreasing the overall risk without decreasing the returns. Setting aside a percentage of your investment in fore