Reducing transaction costs through investment in multinational corporations

Abstract

Scope and Method of Study: This study examines the possibility of reducing transaction costs through investment in multinational corporations ( MNCs). It is hypothesized that to attain a level of total risk equivalent to the U.S. market, fewer stocks of MNCs will be required as compared to stocks of purely domestic corporations. The study covers three time periods. The risk reduction characteristics of three categories of portfolios are analyzed. The first category consists of portfolios made up of purely domestic stocks. The second, of portfolios consisting of stocks of MNCs. And the third, of portfolios made up of stocks of ongoing multinational corporations (OMNCs), i.e., MNCs that continued to be MNCs through the entire test period. Total risk reduction is measured in terms of the number of stocks required to reach the market level of risk. Risk reduction is also analyzed in terms of the systematic and unsystematic components of total risk. Also, the risk/return performance of the three groups of portfolios is compared using the coefficient of variation.

Findings and conclusions: The findings of this study supported the primary hypothesis. As few as three stocks of ongoing multinational corporations were required to reach the market level of risk in one time period. In the same time period, seventy-five stocks of domestic corporations had a higher total risk than the market. An investor could thus reduce transaction costs by investing in a few stocks of multinational corporations, but at the same time, have portfolio risk equal to or less than the market. In all the time periods, MNC and OMNC portfolios consisting of more than 25 stocks had a total risk well below the market risk level. The risk reduction pattern of domestic portfolios was found to be significantly different from the risk reduction patterns of MNC and OMNC portfolios in two time periods. There were however, no significant differences in the risk reduction patterns of MNC and OMNC portfolios. The risk/return performance of domestic portfolios was generally better than MNC or OMNC portfolios. These differences, however, were significant in only one time period.