Question

Discuss how the efficient frontier is affected by international diversification

Answer 1

Efficient Frontier is focussed at management of an optimal portfolio which is having the maximum possible return at the minimum required risk.

efficient Frontier is focused at maximum diversification of the portfolio in order of minimization of the risk and maximization of the return. When the portfolio is being diversified, it means that the firm specific risk are minimised through the process of diversification.

When firm wants to opt for international diversification, it means that each additional unit of international diversification can be very rewarding at the beginning but when the portfolio is actually optimised, the additional unit of stocks added will not yield the same unit of risk reduction so international financing is not preferable at the latest stages at when diversification is already complete, the risk is already minimal but reward with each possible unit goes down with the diminishing marginal utility theory so at the,later stages international diversification is not optimal hence it is not preferable.