Finding the Optimal Weighting Scheme for International Portfolios
Just as with domestic portfolios, when investors manage international portfolios they need to construct a benchmark, or index, portfolio against which they can evaluate performance. The issue of weighting the relative importance of the national components of an international index portfolio is a point of debate among financial market experts. Some argue that the sizes of national economies, as measured by their respective GDP, should define the weights, while others support the choice of their relative market capitalization, and still others propose the use of each economy’s value of imports.
In this week’s Discussion, you will join the debate and argue for and against each of the possible weighting schemes proposed above.
To Prepare
· Review this week’s Learning Resources, as well as other resources you may access from the Internet.
· Consider the following:
o What are the advantages and disadvantages of using the market capitalization of each economy in weighting an international index portfolio?
o What are the advantages and disadvantages of using the GDP of each economy in weighting an international index portfolio?
o What are the advantages and disadvantages of using the value of the imports of each economy in weighting an international index portfolio?
Post by Day 3 a 3- to 6-paragraph assessment that compares and contrasts the most appropriate weighting scheme for the construction of an international index portfolio. Please make sure to include responses to the following specific questions:
1. Which one of the three proposed weighting schemes is more prone to produce weights that change substantially over time?
2. How do exchange rates affect the choice of the best weighting scheme. Why?
3. How might geopolitical alliances, and conflicts affect the stability over time of the weights under each scheme?
Please address clearly each of the questions in 1–2 paragraphs. Make sure you use APA style for your response(s) and properly cite any resources you have used.