The Nature of Portfolio Investment

International portfolio investment is a capital investment in foreign securities, giving an investor no right to control the object of investment, but giving only a priority right to receive income according to the purchased share of the 'portfolio' of the investment object, which in international practice generally does not exceed 10%.

International investment portfolio of an individual company includes the following:

1) shares;

2) debt securities:

a) bonds, promissory notes, loan notes,

b) money market instruments:

• treasury bills;

• deposit certificates of a bank;

• banker acceptances, etc.;

3) financial derivatives.

The main motivation to implement international portfolio investment is the receiving of higher income abroad. For example, residents of one country buy securities of another country if the revenues there are higher. It leads to the international leveling of incomes. However, this explanation for the reasons of international portfolio investment does not take into account the fact that the flow of capital is bilateral. If incomes from securities in one country are lower than in the other one, then it explains the flow of investment from one country to another one. However, it is incompatible with the simultaneous capital flow in the opposite direction. To explain a bilateral capital flow, an element of risk must be taken into consideration. Investors are interested not only in profit, but also in a lower risk, associated with a specific type of investment. Thus, the risk of owning the bonds is linked with the possibility of bankruptcy and change of their market price, and the risk of the shareholding is in the possibility of bankruptcy, significant fluctuations of their market rate and the possibility of getting lower incomes. Thus, investors try to maximize the profits with an acceptable level of risk.

There is a certain link between profitability of securities and risk of their acquisition: the higher profit an investor can get, the higher is the risk. For example, the revenue from the shares of company A and company B is on average 30%. However, with equal probability, the profit from share A can be from 20% to 40%, and the profit from share B is from 10% to 50%. Shares B are associated with greater risk, because the range of values of the income for share B is much larger, so to minimize the risk the investors should buy the shares of company A. If the profit of shares A decreases with simultaneous increase of shares B and vice versa, owning two shares, an investor can get in average 30% of the profit but with lower risk.

The portfolio theory is based on the assumption that profits from securities may change over time in the opposite, and also the income can be obtained with less risk, and higher income can be with the same level of risk of the portfolio as a whole. As revenues from foreign securities are typically higher than revenues from national securities, a portfolio which includes national and foreign securities may have higher revenues and/or a lower risk than a portfolio which is formed of only national securities.

Such balanced portfolio requires a two-way flow of capital. For example, if share A, which has the same average profit like share B but a lower risk, is issued in country I, while share B (with the opposite revenue to revenue A), is issued in country II, portfolio investors of country I must also purchase share B (investing in country II), and investors of country II must purchase share A (investing in country I) for the balance of the investment portfolio. Thus, reciprocal international portfolio flows are explained by the opportunity to diversify risks [19, pp. 344345].

International portfolio investment rises as investors seek to diversify their activities internationally to maximize the revenue with regulated risk. The volume of international market of portfolio investment is significantly greater than the international market's one of direct investment. More than 90% of international portfolio investment takes place among the developed countries.