INTRODUCTION
Problem Statement
Financial integration has provided advantages for both source and host countries, particularly by enhancing investment opportunities This process facilitates the movement of capital from wealthier regions to developing nations, fostering economic growth and development in these host countries.
To mitigate risks associated with foreign investments and address frequent global economic crises, many hedge funds have been established to adapt to these trends In fact, the influx of portfolio investments and the activities of foreign hedge funds have been implicated in contributing to the crisis.
This study examines the connection between foreign investors' trading decisions and the stock market in Vietnam, focusing on stocks that are heavily traded by these investors It aims to enhance the understanding of both domestic and foreign investors regarding the types of companies that attract foreign investment, as well as their long-term positions reflected in ownership ratios.
Research questions
The final purpose of this paper is to answer the following questions:
(i) Do foreign investor’s buying and selling decisions really focus on stocks of large companies with better profitability?
(ii) How do their buying and selling volume affect to their ownership ratio?
Research objectives
This paper seeks to assess how specific characteristics of firms influence foreign investors' decisions regarding buying and selling, as well as their long-term ownership ratios Additionally, it will provide a detailed analysis of these factors across various related industries.
Economic theories
Foreign capital predominantly enters developing and emerging countries through three main channels: foreign direct investment (FDI), portfolio investment, and foreign debt FDI can occur via two primary methods: Greenfield investments and mergers and acquisitions, both of which have seen substantial growth in emerging markets Conversely, portfolio investment encompasses a range of financial instruments, including equity securities, bonds, money market instruments, and financial derivatives.
Investors in country A could invest in country B or vice versa to seek for diversification in their portfolios in term of risk (balancing their portfolios) and expected (equity) return.
(b) Foreign investment in relation to stock market
Foreign Direct Investment (FDI) has been shown to significantly enhance domestic stock market development, as evidenced by various empirical studies (Adam and Tweneboah) FDI acts as a complement to stock market growth, demonstrating a positive correlation with market capitalization and domestic value traded (Claessens et al., 2001) Additionally, the increasing global integration of financial markets has led to a rise in foreign portfolio investment, which offers advantages such as high mobility and the ability to mitigate certain limitations in the bond markets of developing and emerging economies.
Foreign investors consistently pursue lucrative investment opportunities, shifting capital from firms with limited prospects to those with greater potential Nevertheless, the average returns of various investor portfolios can vary significantly, as some investors prioritize ownership of stocks or companies for specific goals—such as fostering business relationships and exercising control—over merely seeking high financial returns (Kim et al, 2005).
Analyzing firm characteristics through ratio analysis is crucial for understanding financial performance According to Ross et al (2005; 2010), ratio analysis is categorized into five key groups: market value measures, profitability measures, short-term solvency or liquidity measures, long-term solvency measures, and asset management or turnover measures.
This paper will primarily examine four key financial metrics: market value, liquidity, profitability, and long-term solvency Additionally, it will consider dividend policy, as this aspect, along with the others, significantly impacts a firm's capacity for sustained growth (Ross et al., 2005; 2010).
2.1.2 Relationship between foreign investor and firm characteristics
Foreign Direct Investment (FDI) flows are significantly influenced by stock evaluation components, which indicate mispricing, particularly in environments with capital account restrictions that hinder portfolio investors' arbitrage opportunities (Baker et al., 2009) This highlights the critical relationship between foreign investors and market value measures.
Market capitalization is closely linked to stock returns for foreign investors, who tend to favor large-cap firms This preference is driven by the need for redemption and liquidity, as well as the desire to mitigate systematic risk associated with their investments.
Research indicates that foreign investors generally favor firms with large market capitalization and robust financial performance (Kang and Stulz, 1997; Lin and Shiu, 2001; Kim et al., 2005) However, contrasting studies reveal that smaller firms often yield higher stock returns compared to their larger counterparts (Banz, 1981; Keim, 1983; Basu, 1983).
Research indicates varying relationships between price-to-book (PB) ratios and stock returns Some studies, such as those by Fama and French (1992) and Daniel and Tittman (1997), found a negative correlation, suggesting that foreign investors can achieve higher returns by purchasing low PB stocks (Dhatt, Kim, and Mukherji, 1999) Conversely, other research, including findings by Lin and Shiu (2001), Kim et al (2005), and Bae et al (2011), reveals that foreign investors tend to favor stocks with high PB ratios.
In regard to PE ratio, this is considered to be the single most important variable in determining a share’s price As a matter of fact, Basu (1977), Breen (1978) and Dreman
Research indicates that stocks with low price-to-earnings (PE) ratios typically yield higher average returns compared to those with high PE ratios However, recent empirical studies reveal that foreign investors often prefer to purchase stocks that have outperformed the market while selling those that have underperformed.
Research indicates a significant positive relationship between foreign ownership and key financial metrics such as Return on Equity (ROE) and Earnings Before Interest, Taxes, Depreciation, and Amortization (EBITDA) Kim et al (2005) highlighted that foreign investors favor companies with higher ROE ratios, which are crucial for investment decisions Bae et al (2011) further supported this by showing that foreign investors tend to buy stocks in Korean companies with elevated ROE and Return on Assets (ROA), resulting in greater profitability for their purchased stocks compared to those sold Additionally, Kang et al (2010) found a positive correlation between foreign ownership and corporate profitability, as measured by EBITDA, in firms listed on the Korean Stock Exchange.
According to Kang et al.(2010), liquidity ratio has positively correlated with foreign ownership into Korean Stock Exchange listed companies However, Vo Xuan Vinh
(2010) found that liquidity ratio has negatively correlated with foreign ownership for firms listed on Ho Chi Minh Stock Exchange.
Foreign investors tend to adopt a buy and hold strategy for long-term positions, focusing less on short-term trading This approach highlights the relationship between foreign investors and the financial leverage ratio, indicating a preference for stability and sustained growth over immediate gains.
Many empirical studies revealed that foreign investors favor firms with low debt ratio (Kang and Stulz, 1997; Lin and Shiu,2001; Kang et al.,2010 and Vo Xuan Vinh,
Foreign investors tend to favor companies with low leverage ratios, as indicated by research from 2010 However, a study by Bae et al in 2011 revealed that firm leverage does not significantly influence foreign investors' decisions to buy or sell stocks This finding aligns with the conclusions drawn by Mishra and Ratti in 2011 Additionally, the relationship between foreign investors and dividend policy plays a crucial role in their investment decisions.
Besides preferring large-size firms , foreign investors were found to prefer stocks with high dividend yield (Jeon et al., 2010; Mishra and Ratti, 2011 and Bae et al.,2011).
Meanwhile, Dahlquist and Robertsson (2001) found that foreign investors also prefer stocks of lower paid-dividend firms.
Related empirical studies
Table 2.1: Summary of related empirical studies as following table:
Panel data with random effect model
They prefer large firms with high PB ratio, low dividend yield.
2001) Stock.E foreign and institutional ownership
Firm size, PB ratio, ROE, average return
Fama–French three-factor mode
F.ownership positively correlated with firm size,
Daily purchase, and total value of foreigners
PE,PC,MKC, Price, ownership data
A standard linear model, Panel data with pooled model
Their buying, selling and net purchase have a positive relationship with firm size and negative relationship with PE ratio Vo
A standard linear model, Panel data with Pooled model
Foreigners prefer large firms, firms with low PB, or low leverage ratio.
Buying and selling among groups of investors
PE, PB, Dividend, CF⁄ Sales three reference pricing models
They buy stocks with higher ROE and ROA than their selling, prefer stocks of large firms and high dividend yield.
Conceptual framework
All expected relationships among variables could be likely summarized as the following tables:
Table 2.2: Summary of expected signs:
Expected signs Buy volume Sell volume Ownership ratio
Vietnam stock Market capitalization (%GDP)
% GDP Market capitalization of listed companies (current US$ mil.)
Research context
Since its establishment in 2000 for the Ho Chi Minh Stock Exchange (HSX) and 2005 for the Hanoi Stock Exchange (HNX), the stock market has played a crucial role in mobilizing capital for the economy, demonstrating a significant and essential impact as reflected in its annual percentage of total volume relative to GDP.
Table 3.1: Viet Nam Market capitalization
Source: Word Bank – Global Financial Data
Source of Data and its definition
Firstly, the research will select data from 2007 to 2011 just because only from 2006 onward the total volume trading by foreign investors has significantly increased.
This study examines listed stocks from three key industries—Construction and Real Estate, Manufacturing, and Finance and Insurance—on the HSX and HNX exchanges, focusing on companies listed prior to 2007 The analysis includes firms in the finance sector with a market capitalization exceeding VND 100 billion as of July 13, 2012, and evaluates foreign trading activity The sample consists of over 98 listed companies, yielding more than 420 observations over a five-year period.
Table 3.2: the structure of industry in dataset(as of July 13, 2012)
Source: Author’s calculate on the data set
(i)Market Capitalization (MKC): this variable is the market capitalization of each firm at the year-end.
(ii) Dividend paid (DIV): how much dividend actually paid to each shareholder.
The Price Book (PB) ratio is a financial metric that compares a company's market value to its book value This ratio helps investors assess how the market values a company in relation to its actual worth, calculated by dividing the market value by the book value.
(iv) Price Earning ratio (PE): a share price divided by earning per share
Return on Equity (ROE) is calculated by dividing net income by the book value of equity at the end of the year, providing insight into a company's profitability relative to shareholders' equity Meanwhile, Return on Assets (ROA) serves as a key indicator of how effectively a company generates profit from its invested capital, highlighting the efficiency of asset utilization.
Earnings before Interest, Taxes, Depreciation, and Amortization (EBITDA) is a key financial metric that helps assess and compare the profitability of different companies by removing the impacts of financing and accounting choices.
The ownership rate (OWN) indicates the percentage of shares held by foreign investors, with Foreign Investment Laws stipulating that foreign ownership in any company cannot exceed 49% This limitation significantly influences foreign investors' trading decisions.
(ix) Debt to Equity Ratio.(DEBT): defined by total liabilities divided total equity often at year end
(x) Current Ratio (C_Ratio): measures a company's ability to pay short-term obligations calculated by current assets divided by current liabilities
(xi) Quick Ratio (Q_Ratio): is calculated as (Current Assets - Inventories) / Current Liabilities
Research Methodology
The estimated equation is a linear regression model as follows:
- YI,t denotes buying, selling and ownership ratio for firm i at trading year t
- XJ, I, t presents the firm characteristic variables j of firm i at year t which are divided into stock characteristics including MKC, PB, P/E ratio, ROE, ROA, EBITDA , DEBT , C_Ratio, Q_Ratio or Dividend Yield
- αi are random individual-specific effects, β is a vector of our robust estimators; and ε is a error term;
This paper utilizes panel data, which offers distinct advantages compared to pooled data To identify the most suitable models for the selected samples, it will rigorously test various regression models, including the Fixed-Effects Model (also known as the Least Squares Dummy Variable Model), the Random-Effects Model (or Random Intercept, Partial Pooling Model), and the Pooled Model or Population-Averaged Model.
After finalizing the appropriate model, to control for heteroskedasticity the option
The term "robust" will be utilized in the regression analysis To identify potential multicollinearity among variables, the study will apply the variance inflation factor following the regression model Detailed test results can be found in the appendix of this paper.
CHAPTER 4: DATA ANALYSIS AND DISCUSSION
Descriptive Data Analysis
Table 4.1: Description of variables of the whole sampled stocks:
Source: Author’s calculate on the data set with Stata software.
The finance industry leads in market capitalization, followed by the construction and manufacturing sectors Notably, construction stocks boast the highest average price-to-earnings ratio at 25 times, while finance and manufacturing stocks are valued at 15 and 11 times, respectively.
The foreign ownership ratio among firms in the finance and manufacturing industries stands at 20%, while the construction industry has a slightly lower ratio of 17% Notably, the construction sector exhibits a significantly high mean debt ratio of 2.35, compared to 1.33 for manufacturing and 0.66 for finance.
Table 4.1: Description of variables of the whole sampled stocks (continued):
Source: Author’s calculate on the data set with Stata software.
Table 4.2: The summary of volume and value traded of the whole sample
Source: Author’s calculate on the data set with Stata software.
In 2010, Vietnam experienced a significant net inflow of portfolio equity, which constituted 2.24% of the country's GDP This period coincided with the lowest average price-to-earnings (PE) ratio of the entire sample, recorded at just 10 times This indicates that stocks in Vietnam were relatively undervalued, attracting substantial foreign investment.
2010 were cheapest during five years.
Table 4.3: Percentage of FDI and Portfolio inflows over GDP in Viet Nam
Foreign direct investment, net inflows
Portfolio equity, net inflows (% of GDP) 8.79% -0.63% 0.13% 2.24% 0.86%
Source: World Bank - Global Financial Data
The Vietnam stock market, perceived as undervalued, consistently attracts foreign capital, particularly in the form of portfolio equity investments Analyzing the average statistics of key variables over the past five years provides valuable insights into their potential trends.
Table 4.4: the summary of statistics by mean of each industry:
Source: Author’s calculate on the data set with Stata software.
The correlation matrix reveals that while the coefficients between ROE and ROA, as well as the Quick and Current ratios, show a strong correlation, most other variable correlations are relatively weak Therefore, the regression model will address multicollinearity among the variables.
Empirical Results
(a) Firm characteristics and foreign investor’s buying volume:
Table 4.5: The coefficient signs between buy-volume with other independent variables:
Buy volume Whole sample Finance stocks Construction stocks Manufacturing stocks
(*** and ** present statistical significance level at lower 5% and 10%, respectively)
Foreign investors are increasingly drawn to value stocks in large firms within the finance and construction sectors, particularly those exhibiting strong performance and low financial leverage Additionally, across all industries, there is a noticeable decline in investment volume for companies with high debt ratios These observations align closely with findings from previous empirical studies.
(b) Firm characteristics and foreign investor’s selling volume:
Table 4.6: The coefficient signs between sell-volume with other independent variables:
Sell volume Whole sample Finance stocks Construction stocks Manufacturing stocks
(*** and ** present statistical significance level at lower 5% and 10%, respectively)
The sell-volume variable exhibits a positive correlation with EBITDA across most industries, with the exception of the finance sector, where it also shows a significantly positive relationship with the ROE ratio Conversely, in the finance industry, the sell-volume variable displays a negative relationship with the PB ratio, a trend not observed in the manufacturing sector.
Market size is only to affect to foreign investor’s selling decision in finance industry The relationship among other variables is separately differentiated.
(c) Firm characteristics and net purchase variable in relation to foreign investor’s ownership ratio
Table 4.7: The coefficient signs between ownership ratio with other independent variables:
Ownership Whole sample Finance stocks Construction stocks Manufacturing stocks
(***and ** present statistical significance level at lower 5% and 10%, respectively)
The analysis of buy and sell volumes indicates that foreign investors favor purchasing stocks from large, high-performing companies However, when it comes to longer positions, they prefer to hold shares in firms with low financial leverage, regardless of the companies' sizes.
EBITDA is a crucial factor influencing buying and selling decisions, yet it has no impact on ownership ratios This financial indicator is particularly significant in the construction industry, where the majority of assets are tangible and subject to one of the three flexible depreciation and amortization methods available to firms.
Table 4.8: The coefficient signs for finance industry:
Finance stocks Buy Volume Sell Volume Ownership ratio
(*** and ** present statistical significance level at lower 5% and 10%, respectively)
Foreign investors tend to favor value stocks of large companies characterized by high profitability, low leverage ratios, and low dividend yields Their primary interest lies in acquiring firms with strong profitability and minimal financial leverage, often maintaining their investments over the long term Interestingly, the market capitalization of these firms has little impact on the investors' long-term ownership stakes.
Table 4.9: The coefficient signs for construction industry:
Construction stocks Buy volume Sell volume Ownership ratio
(***and ** present statistical significance level at lower 5% and 10%, respectively)
Foreign investors in construction stocks typically purchase undervalued large firms with low dividend yields and favorable leverage or quick ratios, while they are inclined to sell overvalued stocks or those belonging to companies with high leverage ratios Interestingly, the size of the firm does not significantly influence their selling decisions.
For long-term investments, firms prioritize acquiring companies with strong profitability, characterized by high EBITDA, low financial leverage ratios, and undervaluation in the market Notably, the size of the firm does not significantly influence their long-term investment decisions.
Table 4.10: The coefficient signs for manufacturing industry:
Manufacturing stocks Buy volume Sell volume Ownership ratio
(*** and ** present statistical significance level at lower 5% and 10%, respectively)
Foreign investors in manufacturing stocks typically favor high-profit growth companies with low financial leverage ratios while selling shares of firms with high quick ratios This trend aligns with the observation that the manufacturing sector has the lowest market capitalization across all industries, as a high quick ratio indicates an inefficient utilization of cash and cash equivalents.
Firm’s market capitalization does not affect to their trading both in buying and selling, it just only affects to their long term position via their ownership ratio.
Conclusions
The study reveals that a firm's market size does not have a significant impact on its overall buying and selling decisions; however, it does influence purchasing choices within the finance and construction sectors, as well as selling decisions specifically in the finance industry.
Research indicates that foreign investors are drawn to stocks of highly profitable firms for both short-term and long-term investments In addition to Return on Equity (ROE) and Return on Assets (ROA) as key profitability metrics, Earnings Before Interest, Taxes, Depreciation, and Amortization (EBITDA) also significantly influences their buying and selling decisions, as well as their ownership ratios for long-term positions.
The analysis reveals that foreign investors tend to favor purchasing and holding stocks of firms with low leverage ratios across various industries Notably, in the construction sector, they predominantly sell stocks of firms with high leverage ratios, aligning with the hypothesis However, in contrast, foreign investors also sell stocks of firms with low leverage ratios in the finance industry and in the manufacturing sector, although the latter findings lack statistical significance.
The study highlights that the quick ratio is a more reliable indicator of a firm's liquidity compared to the current ratio While the relationship between liquidity and ownership ratio is inconclusive and lacks statistical significance, there is a positive correlation between liquidity and trading volume across the entire sample, though this finding is not statistically significant Notably, the correlation does exhibit partial significance when analyzed within individual industries.
The relationship between a firm's dividend policy and ownership ratios across various industries shows a positive correlation, though it lacks statistical significance Similarly, this correlation extends to buying and selling volumes in most sectors, with the notable exception of the finance industry, where foreign investors tend to favor trading stocks of companies that offer low dividend yields.
Policy recommendation
Domestic investors should prioritize firm size and profitability, as indicated by EBITDA, when making short-term investment decisions in the construction sector for buying and in the manufacturing sector for selling This approach is more effective than relying on traditional metrics like ROE or ROA.
Investors should exercise caution when using the price-to-book (PB) ratio to assess potential stocks, particularly in the context of foreign investor trading behaviors Foreign investors often engage in buying and selling stocks with low PB ratios, which is especially relevant in the construction sector Therefore, it is crucial for investors to evaluate their buying or selling strategies in conjunction with the stock's price-to-earnings (PE) ratio, whether it is high or low.
Investors looking to make long-term investments in companies that thrive on foreign ownership should carefully assess the firms' net purchase positions and debt ratios A higher net purchase and a lower debt ratio indicate a more favorable investment opportunity Additionally, for construction firms, evaluating the EBITDA indicator is crucial for informed long-term investment decisions.
To attract foreign investors, listed companies must carefully evaluate their financial leverage, as a higher leverage ratio may decrease their appeal.
Construction firms need to reassess their strategies to enhance their appeal to foreign investors, as construction-related stocks are currently overpriced To attract foreign investment, these companies must acknowledge that investors are looking to lower their ownership stakes in such stocks.
Government policy plays a crucial role in attracting foreign investment, as evidenced by the positive correlation between net purchases of foreign investors and portfolio equity In years where there is a decline or negative net purchase from foreign investors in the stock market, it is essential to reassess and adjust policies or regulations This strategic approach aims to enhance the attractiveness of the market to foreign capital inflows, enabling the country to remain competitive with emerging neighbors such as Myanmar and Malaysia.
Standardizing accounting principles for amortization and depreciation to align with global standards is essential If not, traditional financial indicators like Return on Equity (ROE), Return on Assets (ROA), and Earnings Before Interest and Taxes (EBIT) may diverge from their intended purposes and accuracy in measuring a firm's profitability.
Limitations and Further research
The analysis focuses exclusively on large firms within the finance industry, specifically those with a market capitalization exceeding VND 100 billion Additionally, only stocks that have experienced foreign trading activity over the past year are included in the data set.
The paper focuses on three specific industries to promote across the entire market It suggests that the trading volume of foreign investors, along with their ownership stakes in smaller firms (with market capitalizations below VND 100 billion), may reveal a distinct investment trend This trend indicates a potential strategy to acquire and grow these smaller companies into larger entities, with aspirations for future globalization.
The relationship between net purchases by foreign investors in the Vietnam stock market and net inflows of portfolio equity into Vietnam is significant across various time frames, including quarterly, half-yearly, and yearly periods Analyzing these trends reveals how foreign investment activity correlates with overall market dynamics and economic stability in Vietnam Understanding this connection is crucial for investors and policymakers aiming to navigate the evolving landscape of Vietnam's financial markets.
Continuous net purchases of stocks by foreign investors over a specific period can indicate strong momentum, potentially driving up stock prices.
To evaluate the long-term stock returns of foreign investors following their initial net purchases, it is essential to conduct a study analyzing a portfolio that tracks these net purchases over time and assesses the returns generated after several years.
For manufacturing firms, it’s necessary to take a further study about the relationship between foreign investor’s ownership ratio and their structure of owner equity as well as their profitability.
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Appendix 1: Testing multicollinearity among variables by using the variance inflation factor for the whole sample:
Buy volume variable for whole sample
Sell volume variable for whole sample Variable VIF 1/VIF
Ownership Ratio variable for whole sample Variable VIF 1/VIF
Appendix 2:Testing multicollinearity among variables by using the variance inflation factor for the finance sample:
Sell volume variable for Finance sample Variable VIF 1/VIF MKC 6.11 0.16374
PB 5.36 0.18664 EBITDA 3.59 0.27881 DIV 2.18 0.45862 ROE 2.09 0.4792 Debt 1.54 0.65044
Appendix 3:Testing multicollinearity among variables by using the variance inflation factor for the construction sample:
Sell volume variable for Construction Sample
Appendix 4:Testing multicollinearity among variables by using the variance inflation factor for the Manufacturing sample:
Sell volume variable for Manufacturing sample Variable VIF 1/VIF EBITDA 5.83 0.172
Appendix 5: Correlation Matrix of variables:
All samles buy sell net_buy own MKC PE PB EBITDA ROE ROA DIV Debt Q_Ratio C_Ratio buy 1 sell 0.86 1.00 net_buy 0.17 -0.35 1.00 own 0.27 0.19 0.13 1.00
Finance buy sell net_buy own MKC PE PB EBITDA ROE ROA DIV Debt Q_Ratio C_Ratio buy 1.00 sell 0.88 1.00 net_buy -0.23 -0.66 1.00 own 0.15 0.09 0.06 1.00