PpT HE purpose of this paper is to investigate the systematic covariation between stock prices in developed countries. Covariation may reflect causation or it may indicate similar reactions to external stimuli. Causal relationships may be lasting or temporary and may accordingly result in sustained periods or in rather brief periods of covariation. For example, developments in the Canadian stock market are continuously influenced by those in the United States stock market. An example of the second type of causal covariation is the relationship between Japanese and United States stock prices in mid-1970. Because of a decline in United States stock prices at this time and the liquidity needs of large institutional investors in the United States, it was necessary for these investors to reduce their holdings of foreign assets.1 The reduction of their investment in Japanese equities resulted in an outflow of capital from Japan and stimulated a decline in Japanese equity prices. For markets outside the United States, the introduction of the Interest Equalization Tax by the United States in mid-1963 is an example of an external development that caused similar responses in several stock markets. This measure caused many stock indices to decline, especially those in Japan and Canada. To the extent that stock prices reflect domestic economic conditions and conditions are similar across countries, stock prices will show systematic covariation that is a result of developments external to the national stock markets. Covariation between stock prices in different countries is of interest to individual investors who wish to allocate their investment portfolios so as to maximize the rates of return on their portfolios for a given risk. The return on stock consists of the dividend paid on the stock and the change in the price of the stock. For most stocks the price is more variable than the dividend so that price movements account for a larger part of the change in the rate of return. Thus investors seeking effective portfolio diversification wish to determine the countries whose stock prices move together, those whose stock prices move in opposite directions, and those whose stock price movements are unrelated to one another. Covariation between stock prices in different countries is of interest to the forecaster and policy maker because stock movements affect domestic consumption and investment expenditures. The wealth of consumers is affected by changes in stock prices and changes in wealth affect consumption decisions. The mechanism through which stock price changes affect investment decisions is more complex, but the influence of these changes may still be significant. An economist is frequently interested in establishing the extent to which financial markets are integrated or the extent to which developments in one market are reflected in the developments in a second market. Measures of financial integration are traditionally based on the dispersion of interest rates between markets, with a smaller dispersion measure corresponding to a higher degree of integration.2 This study concentrates exclusively on the covariation between equity prices as a measure of integration since aggregate information on dividend payments is not available for most countries. In an attempt to measure the extent of covariation between national stock markets and to isolate and identify the patterns of linkage Received for publication June 28, 1972. Revision accepted for publication January 12, 19,73. * The views expressed in this paper are those of the author and not necessarily those of the International Monetary Fund. 1Legal constraints on the share of a United States institution's portfolio that may be invested in foreign assets may also have influenced the repatriation of portfolio capital. 2See R. N. Cooper, Towards an International Capital Market?, Center Discussion Paper number 68, Economic Growth Center, Yale University, July 1969. The question of the integration of national stock markets is briefly raised but is not pursued because price earnings ratios are not available in many countries.

T HIS is an empirical study of what determines the flotation of Canadian municipal and provincial bonds denominated in States dollars. The determinants of foreignpay flotations are important for two reasons: (1) States purchases of these flotations result in a significant inflow of capital to Canada from the States; and (2) a large part of States portfolio investment abroad is States purchases of new Canadian securities denominated in States dollars. This paper presents an analysis of individual issue data in order to establish the determinants. Many empirical studies of international portfolio investment have been conducted. Some of them are based largely on the Canadian-United States flows while others concentrate on the aggregate flows in and out of the States.' They are founded completely on aggregate economic data and are devoted to the analysis of time series. This paper is the first study to the author's knowledge that uses micro-economic data and cross-section analysis to investigate portfolio capital flows. If Canadian bond issuers behave rationally they will float their securities to enable their costs for any given issue to be minimized. These costs include both underwriting fees and interest payments. If the security is floated in the States and is denominated in States dollars, a subjective adjustment factor is included in the cost calculations to incorporate exchange rate risks. When Canadian issuers do make use of the States capital market to raise capital, they are expressing their preference for this market over the domestic market for these issues.2 During any given period does the States capital market appeal to a particular group of Canadian issuers or is the economic incentive to raise funds abroad spread evenly across Canadian issuers? If the incentive to raise funds abroad is equally great for each Canadian issuer, then foreign-pay issues will be selected from domestically floated issues by a random process; they will have no characteristics which distinguish them from domestic flotations. Alternatively, foreign flotations may appeal to a distinguishable group of issuers. If so, then what are the characteristics differentiating these issuers from domestic issuers? In part II of this paper foreign bond flotations are found to be statistically distinguishable from domestic bond flotations, and their differentiating characteristics are discussed. What factors give rise to the groupings observed in part II? The Canadian capital market may subject issues with certain characteristics to cost premiums so that the States market is especially attractive to these issues. Alternatively, the States market may offer these issues particular cost advantages. Thus, the grouping arises as a result of market characteristic configurations in Canada and in the States. * This article is based on the author's doctoral dissertation, United States Investment in Canadian Securities, 1958-1965, Harvard University, 1969 (unpublished). The research for this dissertation was financed by the Ford Foundation and by the National Science Foundation. The author accepts complete responsibility for the views expressed in the paper. 'For example see Robert Baguley, International Capital Flows and Canadian Monetary and Fiscal Policies, 1951-1962, unpublished Ph.D. dissertation, Harvard University, 1969; Gerald K. Helliner, Connections Between the States' and Canadian Capital Markets, 19521960, Yale Economic Essays, II (No. 2, 1962), pp. 351400; William Branson, Financial Capital Flows in the U.S. Balance of Payments (Amsterdam: North-Holland Press, 1968). 2 The distinction between the States capital market and the Canadian capital market is one between two regional markets. Each market is part of the world capital market but has characteristics which differentiate it from other components of the world market. This paper discusses the movement of capital from one regionally defined market to another.