Academic journal article Research in Applied Economics

An Econometric Analysis of the Impact of Macroeconomic Fundamentals on Stock Market Returns in Ghana

Academic journal article Research in Applied Economics

An Econometric Analysis of the Impact of Macroeconomic Fundamentals on Stock Market Returns in Ghana

Article excerpt

Abstract

Relying on more recent data spanning September, 2000 to September, 2010, this paper investigates the effects of macroeconomic variables on stock market returns by employing the Johansen multivariate cointegration approach and vector error correction model (VECM). We present evidence of a long-run relationship between macroeconomic variables and stock returns. Our Granger causality test however could not establish causality from any direction between macroeconomic variables and stock prices and that earlier literature that found causality between the series may be misleading. Results from both the impulse response functions and variance decomposition show that among the macroeconomic variables, shocks to inflation, money supply and exchange rate do not only explain a significant proportion of the variance error of stock returns but their effects persist over a long period.

Keywords: stock returns, cointegration, macroeconomic variables, causality, equilibrium, Ghana

(ProQuest: ... denotes formulae omitted.)

1. Introduction

Undoubtedly, stock markets have been a major preoccupation of the financial sector of many countries given its role of realigning and channelling idle resources into productive sectors (Muhammad et. al., 2009). A well-functioning stock market is thus a viable tool that mobilizes large pool of savings for economic development. On the other hand, investors largely respond to the intricacies of macroeconomic fundamentals thus affecting movements of stock market performance. This has generated much attention in the literature on the relationship between macroeconomic variables and stock market returns.

For instance, by using the efficient market theory and rational expectations intertemporal asset pricing theory, Chen et. al., (1986) assert that asset prices depend on their exposures to the macroeconomic variables that typically describe the economy. Following this, Chen et. al., (1986) used the multi-factor arbitrage pricing theory (APT) to examine the relationship between economic forces and stock market returns using the New York Stock Exchange (NYSE) index as a proxy to the latter. Their findings reveal that industrial production, changes in risk premium, slope of the structure of interest rates, unanticipated inflation as well as changes in expected inflation were found to significantly influence asset prices. They however found no impact of oil price shocks on asset pricing. Their evidence generally shows that macroeconomic indicators significantly influence expected stock returns than a stock market index. Hamao (1988) applied the same technique to the Japanese stock market and results from his empirical study were not different from Chen et. al.,'s (1986) findings.

Using monthly data covering January, 1999 to January, 2009, Hosseini et. al., (2011) investigated the relationship between macroeconomic variables and stock market indices for China and India. Results from the multivariate cointegration and vector error correction model (VECM) show both short- and long-run relationship between stock returns and macroeconomic variables for the two countries and that the impact of the latter on the former varies from country to country. While the long-run effect of crude oil price and money supply on China's stock returns is positive, the impact of these macroeconomic indicators on India's stock prices is however negative. Their results also reveal opposing impacts of industrial production on stock returns. They found that changes in industrial production positively affect stock returns in India while exerting a negative effect on China's stock returns. Their findings however show the positive impact of inflation on stock returns for both countries.

Sbeiti and Hadadd (2011) examined the relationship between macroeconomic variables and stock prices in four Golf Cooperation Council (GCC) countries. Results from their multivariate cointegration test presents evidence of long-run relationship between stock prices and the selected macroeconomic variables. …

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