Abstract

With greater economic and financial market integration, it is critical for asset managers to choose the investment universe that provides superior diversification and performance op-portunities. Therefore, it is important to investigate whether international diversification benefits arise from industry rather than country allocations. We employ various asset alloca-tion strategies such as 1/N, ‘Risk-Parity’, Minimum-Variance as well as Mean-Variance, Bayes-Stein and Black-Litterman to analyze whether an industry-based or a country-based approach provides a superior performance. We also investigate time-varying effects for ex-pansionary and recessionary sub-periods, equity-only and equity-bond portfolios as well as portfolios with and without short positions. For the 1986-2020 period, we find that industry-based asset allocation strategies attain higher Sharpe and Omega ratios and higher alphas compared to country-based allocations. The Sharpe ratio differences are economically rele-vant yet statistically insignificant in many analyzed settings. The outperformance of sector allocations are independent of the optimization approach and implemented constraints and whether bonds are included in the investment universe. This is consistent with the observa-tion that countries have become more integrated and higher correlated than industries, re-sulting in lower country and relatively higher industry diversification benefits. Especially for periods with unpredictable shocks, industry allocations have superior performance. Our results have important implications for international asset allocation decisions.