Stock prices and macroeconomic variables MDE thesis

ii UNIVERSITY OF ECONOMICS INSTITUTE OF SOCIAL STUDIES HO CHI MINH CITY THE HAGUE VIETNAM NETHERLANDS ======o0o====== VIETNAM – NETHERLANDS PROJECT FOR M.A IN DEVELOPING ECONOMICS STOCK PRICES AND MACROECONOMIC VARIABLES IN VIETNAM: AN EMPIRICAL ANALYSIS BY NGUYEN THI BAO KHUYEN MASTER OF ARTS IN DEVELOPMENT ECONOMICS HO CHI MINH CITY, 2010 iii UNIVERSITY OF ECONOMICS INSTITUTE OF SOCIAL STUDIES HO CHI MINH CITY THE HAGUE VIETNAM NETHERLANDS ======o0o====== VIETNAM – NETHERLANDS PROJECT FOR M.A IN DEVELOPING ECONOMICS STOCK PRICES AND MACROECONOMIC VARIABLES IN VIETNAM: AN EMPIRICAL ANALYSIS A THESIS PRESENTED BY NGUYEN THI BAO KHUYEN IN PARTIAL FULFILMENT OF THE REQUIREMENT FOR THE DEGREE OF MASTER OF ARTS IN DEVELOPMENT ECONOMICS SUPERVISOR Prof. Dr. NGUYEN TRONG HOAI HO CHI MINH CITY, 2010 iv DECLARATION I certify that this thesis has been written by me, that it is the record of work carried out by me and that it has not been submitted elsewhere. HCMC, January 10, 2010 NGUYEN THI BAO KHUYEN v ACKNOWLEDGEMENTS IT IS A TREAT to have an opportunity to formally express my appreciation to people who have really created the concepts and methodology expressed in this research. I own the greatest debt to professors of MDE Programme, executive programme administrations in Vietnam and colleagues. Their enthusiasm about the experience and what they were teaching, was an important motivator for me. I would like to express my deep and sincere gratitude to my supervisor, Professor, Doctor Nguyen Trong Hoai, Dean of the Faculty of Development Economics, University of Economics, Ho Chi Minh City. His wide knowledge and his logical way of thinking have been of great value for me. His understanding, encouraging and personal guidance have provided a good basis for the present thesis. I especially appreciate the VietFund Management colleagues, who have been eager supporters of the research. NGUYEN THI BAO KHUYEN March 2010 vi ABSTRACT The article employs the cointegration and error correction version of Granger causality tests to investigate whether the Vietnamese stock market exhibits the publicly informational efficiency. The test results strongly suggest informational inefficiency in the Vietnamese stock market. Specifically, the results from bivariate analysis suggest that the Vietnamese stock market is not informationally efficient in both short- and long-run. In addition, the stock market seems to even divorce from the most part of the economy. Therefore, it is still possible for a “professional” trader to make abnormal returns by analyzing good or bad news contained in some macroeconomic variables. The findings re-assure that the Vietnamese stock market is not well functioning in scarce resource allocation and not attractive enough to encourage foreign investors. Since the market is not informationally efficient, especially with respect to monetary variables, it may be dangerous for policy makers to realize the role of monetary policies, the so-called demand stimulus packages. In terms of the investors‟ point of view, fundamental analysis is still significant for their investment decisions. Thus, companies with strong equity analysts would have higher comparative advantages in this inefficient market. Furthermore, instead of becoming more efficient over time, as one might expect, the Vietnamese stock market appears to have become increasingly divorced from reality. This also reveals that the last financial crisis has serious impact on the Vietnamese stock market. vii TABLE OF CONTENTS CHAPTER 1 1 INTRODUCTION 1 1.1 RESEARCH CONTEXT 1 1.2 THE PROBLEM STATEMENT 2 1.3 THE RESEARCH OBJECTIVES 3 1.4 RESEARCH QUESTIONS AND HYPOTHESES 4 1.5 RESEARCH METHODOLOGY 5 1.6 STRUCTURE OF THE THESIS 5 CHAPTER 2 6 LITERATURE REVIEW 6 2.1 THE CONCEPT OF EFFICIENT MARKET 6 2.2 FORMS OF MARKET EFFICIENCY 7 2.3 MARKET EFFICIENCY AND VALUATION 12 2.4 THE DETERMINANTS OF STOCK PRICES 13 2.4.1 The Determinants of True Value 13 2.4.2 The Determinants of Stock Price 17 2.5 EMPIRICAL STUDIES 20 CHAPTER 3 24 RESEARCH METHODOLOGY 24 3.1 STATIONARITY AND UNIT-ROOT TESTS 24 3.2 VECTOR AUTOGRESSIVE MODELS AND CAUSALITY TESTS 25 3.2.1 VAR Models 25 3.2.2 Granger Causality Tests 26 viii 3.3 SEMI-STRONG FORM EFFICIENCY TESTS 28 3.4 ERROR CORRECTION MODELS 29 3.4.1 Cointegration 30 3.4.2 Error Correction Mechanism 30 3.4.3 Testing for Cointegration and ECM 32 3.4.4 ECM and Long-Run Efficiency 33 3.5 DATA COLLECTION AND ANALYSIS 35 CHAPTER 4 38 RESEARCH RESULTS 38 4.1 DESCRIPTIVE STATISTICS 38 4.2 BIVARIATE CAUSALITY TESTS 42 4.3 MULTIVARIATE GRANGER TESTS 48 CHAPTER 5 54 CONCLUSION AND POLICY RECOMMENDATIONS 54 5.1 MAIN FINDINGS 54 5.2 POLICY IMPLICATIONS 55 5.3 FURTHER STUDIES 57 REFERENCES 58 1 CHAPTER 1 INTRODUCTION This chapter will explain why the efficient market hypothesis is worth investigating in the case of the Vietnamese stock market. In particular, this chapter is divided into six sections. The first section will provide evidence that tells us why information becomes an issue of concern for the most part of market participants and policy makers as well. From this background information, the second section will raise the problem necessary to make clear for the case of Vietnam. The third section will set four main objectives the thesis expects to obtain in order to solve the research problem. To obtain the proposed objectives, the fourth section will raise questions and corresponding hypotheses which direct the whole thesis to a systematic way. The fifth section will briefly tell us how the research will be done in terms of analytical models, data collection, and data analysis. The final section will describe structure of the thesis. 1.1 RESEARCH CONTEXT Efficient market hypothesis (EMH) has been at the center of debates in financial literature for several years. The term efficiency is used to describe a market in which all relevant information is impounded into the price of financial assets. If the capital market is sufficiently efficient, investors cannot expect to achieve superior profits from their investment strategies. As a result, Capital Asset Pricing models can be useful for various investment decisions. In the economic perspective, the efficient market is even more important because it implies that the stock market is well functioning in scarce resource allocation. However, this is not always the case, especially in the emerging stock markets. The last decades have witnessed spectacular growth in both size and relative importance of the stock markets in developing countries. High economic growth, the pursuit of liberalization policies, and trends towards financial market globalization provided the environment in which stock markets could thrive. In addition, foreign equity managers were attracted to these markets by the potentially high rates of return offered and the desire to pursue international diversification. According to Antoniou and Ergul (1997), as these capital markets have developed, considerable attention has been given to the question of whether they function efficiently. But why the efficiently functioning stock market becomes so important that every developing country does its best to direct toward. Islam and Khaled (2005) calls developing countries as „capital starved economies‟, so efficient allocation of scarce resources and encouragement of private foreign investment are both of vital importance. They also stated that the 2 success of an increasing privatization of these economies will depend crucially on the presence of an active and efficient stock market. Indeed, rational investors expectedly drive their investments into the most profitable projects, given acceptable risks. The efficient market can address the „mixed feelings‟ problem, which investors are always skeptical about the intrinsic value of any stock under consideration. This may lead their decisions based on others. In other words, this phenomenon is commonly considered as herding behavior. For foreign investors, inefficient markets are usually equivalent to high risky markets when making their investments abroad. Hence, they tend to apply higher hurdle rates, which in turn underestimate investment opportunities in developing countries. Eventually, it‟s hard for any developing country with inefficient/weak stock market to attract foreign portfolio investment flows. In recent years, the intensity of foreign direct investment competition among developing countries becomes fiercer, so foreign indirect investment may become a feasible alternative for economic development. For above reasons, the questions of whether the markets price securities efficiently and what makes markets informationally efficient or inefficient turn out to be ultimately empirical issues. An understanding of these issues will help to determine the appropriate regulatory framework for the establishment of the efficiently functioning stock market. This appears to be the case of Vietnam. 1.2 THE PROBLEM STATEMENT Since its foundation in July 2000, the Vietnamese stock market has dramatically expanded and become one of the most important sources of capital mobilization. Up to June 2009, the Vietnamese stock market has 352 listed companies and a market capitalization of about US$17.5 Billion, approximately 21.3 percent of Vietnam GDP, which even reached above 45 percent before the financial crisis (Thomson Reuters). Despite its impressive growth, the Vietnamese stock market is really struggling with various typical weaknesses of an emerging market (Truong, 2006). First, it is not fully characterized by the depth and maturity of a stock exchange observed in a developed country. The legal framework is weak and few alternatives are available for investors. Interest rates are strictly controlled by the State Bank. The government deeply intervenes into stock trading transactions. Accordingly, investors tend to speculate, and thus cause high market volatility. Second, it is widely known that one of the biggest problems facing traders is lack of transparency. Reporting requirements for listed companies are not well defined, and significantly less comprehensive than those in the developed stock markets. Third, publicly information disclosure is not only unclear but also unreliable. As a result, trading behavior in the Vietnamese stock market may be much different from that in developed/newly emerging stock markets. Investors may base their actions on the decisions of others who are well informed about market developments, by following the market consensus. In other words, the [...]... common stock returns are correlated with some macroeconomic variables of a country, such as money supply, inflation, interest rate, and capital expenditure The most important implication of his findings is that changes in macroeconomic variables can be used to predict changes in stock prices The types of relationships between stock market returns and macroeconomic variables can be varied As Mahdavi and. .. between stock prices and economic activity is not only limited to the relationship between stock prices and economic growth, but may also be extended to other economic factors, as Fama (1981) mentioned Abdullah and Hayworth (1993) argue that stock returns are positively related to inflation and growth of the domestic money supply in the U.S, but negatively related to domestic interest rates Beenstock and. .. movement and macroeconomic variables may not be direct, consistent, and stable over time For the focus of this thesis, the test results from emerging stock markets such as Malaysia, Thailand, Indonesia, Philippines and Central European countries seem to be most significant Ibrahim (1999) investigates the dynamic interactions between seven macroeconomic variables (the industrial production index, consumer prices, ... cointegration between the stock prices and three macroeconomic variables – consumer prices, credit aggregates and official reserves The results suggest that deviations from the equilibrium path are adjusted by about 5%–8% the next month through the movements in stock prices Thus, the adjustment toward the long-run relationship is extremely low in Malaysian stock market Hanousek and Filer (2000) examine... (Saunders and Tress 1981) Other researchers (Leonard and Solt, 1987; Giovanini and Jorion, 1987; Kaul and Seyhun 1990; Randal and Suk, 1999) also support a significant relationship between inflation or expected inflation and stock market prices In terms of the relationship between stock market returns and exchange rate, Johnson and Soenen (1998) state depreciation may cause the cost of imports to increase,... relationship between stock returns and economic growth has not been stable over time (Stock and Watson 1990) For example, Cheng (1995) argues that a number of systematic economic factors significantly influenced the U.K stock returns Meanwhile, this result contradicts with that of Poon and Taylor (1991) who also observe the interrelationship between macroeconomic factors and stock prices in the U.K The... changes in macroeconomic variables have no significant predictive ability for the movements in stock prices Second, the stock market movements could help anticipate variations in the industrial production, the M1 money supply, and the exchange rate From this finding, he says that the causal link from stock prices to the M1 money supply may reflect the importance of the stock market on the M1 money demand... ability, and time And in Vietnam, it is still lack of professional institutions so this is rarely realistic In addition, based on previous studies (Ibrahim, 1999; Hanousek and Filer, 2000; Rousseau and Wachtel, 2000; Wongbangpo and Sharma, 2002; Islam and Khaled, 2005; Atmadja, 2005), most emerging stock markets, to which extent, remain Granger causality relationships from the macroeconomic variables to stock. .. However, in some cases, macroeconomic factors cannot be reliable indicators for stock market prices movement in the Asian markets because of the inability of stock markets to fully capture information about the change in macroeconomic fundamentals (as is cited in Wongbangpo and Sharma, 2002) In conclusion, macroeconomic variables (i.e economic growth, inflation, interest rate, and exchange rate) of a... sector, and in the exchange rate within an economy Thus, changes in one of those factors may have an influence on the others Stock price movements are, either symmetrically or asymmetrically, related to macroeconomic variables In some cases, short run causal linkages between stock price movement and macroeconomic variables are also appear It is worth noting that the relationship between the stock market . NETHERLANDS ======o0o====== VIETNAM – NETHERLANDS PROJECT FOR M.A IN DEVELOPING ECONOMICS STOCK PRICES AND MACROECONOMIC VARIABLES IN VIETNAM: AN EMPIRICAL ANALYSIS A THESIS. CITY THE HAGUE VIETNAM NETHERLANDS ======o0o====== VIETNAM – NETHERLANDS PROJECT FOR M.A IN DEVELOPING ECONOMICS STOCK PRICES AND MACROECONOMIC VARIABLES IN VIETNAM: AN EMPIRICAL. other words, the focus of this thesis is to find out the relationship between stock prices and macroeconomic variables in Vietnam. 1.3 THE RESEARCH OBJECTIVES This thesis attempts to apply the