Accounting Standards and International Portfolio Holdings: Analysis of Cross-border Holdings Following Mandatory Adoption of IFRS.

Abstract

Prior literature shows that investors under-invest in foreign firms due to information asymmetry problems. I posit that differences in local accounting standards are a source of the information asymmetry among investors. Using security-level holdings of international mutual funds, I find that harmonizing accounting standards (adoption of IFRS) increases foreign mutual fund holdings. Harmonizing accounting standards increases cross-border holdings 1) directly by reducing the information processing cost of foreign investors and 2) indirectly by reducing the effect of other barriers on cross-border investments such as geographic distance. Further analysis suggests that differences in the enforcement of the standards are sufficient to curb the benefits of accounting harmonization.