Analysing the Effect of Portfolio Concentration Index and Stock Market Correlation

The objective of this research was to test the effect of portfolio concentration on market correlation. The relationship between stock market linkages and portfolio concentration was investigated to gain a better understanding of the vulnerability that a country is subjected to during a global fnancial crisis. The portfolio concentration index of a country refects its portfolio investment strategy and design, whether it prefers to concentrate its portfolio of stocks in a handful of target markets or to geographically diversify its investments. It was found that countries that had invested disproportionate weights in selected fnancial markets were signifcantly different from those countries that held less concentrated portfolios in terms of their effect on fnancial market integration. The portfolio concentration index, real interest rate differential, industrial production growth differential, and stock market size differential were statistically signifcant in infuencing the correlation in stock returns when a fxed effects model was employed for a sample of 25 investing and 27 investee countries from 2001 to 2014. This study implied that although portfolio allocation affects fnancial market integration, it is not signifcantly related to fnancial spill-overs during crisis periods. The fndings may shed light for investors regarding portfolio designs and allocation decisions