Asymmetric Information, Portfolio Managers, and Home Bias

We propose a model of delegated asset management in which individual investors are more informed about the domestic market than the foreign market and face uncertainty about quality of portfolio managers. The model shows that asymmetric information of individual investors results in home bias even if professional fund managers are equally well informed about all markets. Additionally, the model generates predictions about the size and the quality of mutual funds that are consistent with empirical studies: there are fewer mutual funds investing domestically, but their quality and market value are higher.