Foreign investors under stress: Evidence at the firm level

Emerging market policy-makers have been concerned about the financial stability implications of financial globalization. These concerns are focused particularly on behaviour under stressed conditions. Do tail events in the home country trigger off extreme responses by foreign investors and is there any asymmetry between the responses of foreign investors to very good versus very bad days? Do foreign investors have a major impact on domestic markets through large movements of funds? Do extreme events in world markets induce extreme behavior by foreign investors, thus making them vectors of crisis transmission? Patnaik et al. examine these questions for India, using a modified event study methodology focused on tail events. The researchers analyze data for individual companies, and find that, while in some cases, foreign investors do exacerbate extreme movements in stock price returns, in other cases they seem to lean against the wind, potentially stabilizing prices. Hence, there is no clear evidence for the presumption that foreign portfolio investors exhibit herd behaviour that is uniformly destabilizing.

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