A Note on International Business Growth in U. S. Multinational Firms (2002)

During last decade of 20th century, discussion regarding globalization of U. S. economy was common. The discussions ranged from unlimited potential of foreign to the disastrous loss of American jobs. Using a sample of approximately 100 of largest U. S. multinational firms, purpose of this research is to determine of relative growth of foreign to domestic operations conducted by these firms. Additionally, an important, highly correlated question is: As U. S. economy and multinational firms become more global, are diversification benefits enhanced using multinational firms to internationalize domestic portfolios? That is, given significant growth in international operations of U. S. multinational firms, one might conclude that investors could advance goals of lower risk and higher returns by including these firms in their domestic portfolios. On other hand, as more multinational firms increase their foreign operations, integration of both real goods and financial foreign markets with domestic markets may lead to higher correlations among various market indices. Thus, incrementally, an increased portfolio allocation may be overshadowed by an increased correlation effect, thereby, reducing desired benefits. Both academicians (Michaud, Bergstrom, Frashure, & Wolahan, 1996; Iyer, 1998) and investment professionals (Schiffres, 1998; Lichtblua, 2001) have advocated virtues of diversifying domestic portfolios with international assets. Unfortunately, according to Baxter and Jermann (1997), despite growing integration of international financial markets, investors do not diversify internationally to any significant extent (p. 170). For those investors who do, according to articles in The Wall Street Journal and The Banker, global portfolio diversification via multinational holdings appears to be a foregone conclusion by many industry practitioners (Ip, 1999; Gruzin & Davidow, 2000).1 Multinational firms possess unique advantages for achieving desired effects of international diversification (Mathur Fd Hanagan, 1983; Lichtblua, 2001). As a variety of constraints such as limited access to information, political and sovereign risk, host country regulations, taxes and legal system differences, cultural and language barriers, accounting and reporting differences, exchange rate risk, transactions costs, etc., exist that inhibit use of various international diversification techniques, inclusion of multinational firms in a domestic portfolio circumvents or reduces many of these constraints for U. S. investors, particularly advantage of no additional transaction costs. Furthermore, investors are less likely to be exposed to risk if multinational companies are duly knowledgeable about their particular lines of business in foreign countries because of U. S. securities regulation. Hence, motivation to examine of relative growth of foreign operations conducted by large, U. S. multinationals during seven-year period 1992 through 1998. Selected Literature The conventional argument, known for more than a hundred years (Lofthouse, 1997), is that diversifying a domestic portfolio with international holdings increases expected returns or lowers volatility of those returns, both of which are desirable results. These general benefits are valid even after estimation risks (the uncertainty inherent in expected returns, variances, and covariances) are considered (Tai, 1998). Because variances and covariances are more precisely estimated than expected returns, Jorion (1985) asserts that risk reduction is much more significant than an increase in portfolio returns. As for allocation/correlation trade-off, Odier and Solnik (1993) conclude that allocation decision determines major contribution to portfolio risk and return performance. Further, they also note, along with Bookstaber (1997), that when volatility across markets increases significantly, correlations are compounded as well. …