Do Foreign Equity ETFs Provide Diversification Benefits for South African Investors Under Bull and Bear Markets?

In recent years, financial markets have been plagued with heightened levels of volatility due to the COVID-۱۹ pandemic, banking crises, inflation and interest rate upswings, fintech disruptions, and geopolitical tensions such as the Russia-Ukraine war, among other factors. Given the unanticipated rise in investment risk and uncertainty, investors seek alternative assets to diversify their portfolios and mitigate risk vulnerabilities. Recently, the popularity of exchange-traded funds (ETFs) has soared, with foreign equity ETFs providing easily accessible and low-cost exposure to international stock markets. On this background, this study aims to investigate whether foreign equity ETFs offer diversification benefits to South African investors under bull and bear markets. To achieve this objective, a modified version of the international capital asset pricing model (ICAPM) is employed with a Markov Regime-Switching framework to assess a sample of foreign-equity ETFs listed on the Johannesburg Stock Exchange (JSE). The findings of this study suggest that foreign equity ETFs do not serve as effective diversification tools for South African investors under both bullish and bearish market conditions because local market conditions compromise their diversification capabilities. This study explores the diversification benefits of foreign equity ETFs under varying market conditions, offering valuable insights for investors trading in these instruments, fund managers overseeing such portfolios, and regulators responsible for governing the ETF segment.

Keywords:

Diversification , Exchange Traded Fund , International Capital Asset Pricing Model , Johannesburg Stock Exchange , Markov regime-switching