Academic journal article Academy of Strategic Management Journal

An Empirical Investigation of the Inter-Linkages of Stock Returns and the Weather at the Indian Stock Exchange

Academic journal article Academy of Strategic Management Journal

An Empirical Investigation of the Inter-Linkages of Stock Returns and the Weather at the Indian Stock Exchange

Article excerpt

INTRODUCTION

The traditional finance studies suggest that financial markets move rationally and they are based on economic fundamentals. But psychological factors also influence the investment decisions and the mood of people significantly affects the decisions they make (Saunders, 1993; Hirshleifer & Shumway, 2003). It is well-known that weather effect is closely related to investors' mood and sentiments. Weather conditions affect an individual's emotional state or mood, which obstructs the people from making optimal or rational decisions. If the existence of weather effect affects the investors' decision making, various weather conditions might influence the movement of stock returns. The weather was extensively understood to influence people's mood. Good or bad weather, in the regions in which investors' trade, could be affected by their moods. Howarth & Hoffman (1984); Lucey & Dowling (2005) viewed that the returns may increase or decrease, according to the weather conditions. Many psychological studies confirmed the fact that depending on the mood, the individuals were more predisposed to either pessimistic or optimistic expectations (Arkes & Isen, 1988; Etzioni, 1988; Romer, 2000). Some economists (Lucey & Dowling, 2005) argued that the investors may not always act rationally when they make decisions in the economic market. Investors' psychological movements may affect their decisions (Bell & Baron, 1976; Allen & Fischer, 1978). Over the recent years, many researchers in behavioral finance have put their efforts to investigate the psychological factors that influence the investors' evaluation of securities. These psychological factors are related to mood fluctuations, induced by weather. (Kamstra, Kramer & Levi, 2003) investigated the relations between stock market returns and current weather conditions and the study found the 'sunshine effect', which is a negative correlation between cloudiness and stock market return. Predictability of stock returns was important for practitioners and academicians in finance since it has important implications for market efficiency, which, in turn, helps to produce more realistic asset pricing models (Rapach & Zhou, 2013; Neely, Tu, Rapach & Zhou, 2014). The market openness and globalization increased the proportion of foreign investors in local stock markets, which could weaken the weather effects in markets. With the development of electronic-trading system, the communication technology, arbitrageurs could make international portfolio strategies, using program trading. This development could also weaken the weather effects and make stock market more efficient.

REVIEW OF LITERATURE

An attempt has been made, to review the earlier research works, undertaken in the area of stock markets and weather factors, to understand research gaps, tools used and findings of earlier studies.

The review of earlier studies clearly reveals the fact that there was no comprehensive study, exclusively covering the correlation between stock returns and the weather, at the Indian Stock Exchange (Table 1). This research, on this subject, could help the policy makers and the investors, to easily identify the riskless weather condition and their diversification strategy for investments. It is an attempt to fill the gap of research on the Stock Returns and the Weather Conditions.

NEED AND IMPORTANCE OF THE STUDY

This research study is important because Indian Subcontinent attracts more number of portfolio investments compared to other Asian markets. The present study examined the interlinkages of three weather factors (temperature, humidity and wind speed), on the returns of the Indian stock indices (namely BSE Sensex and S&P CNX Nifty). Research in this area of weather factor and stock market has been mainly undertaken in the US, Europe and UK, where data are more available. A limited number of researches have been conducted examining the weather effect on the Indian capital market; moreover, none of the studies address causation. …

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