Stock

market and eficiente market hypothesis: testing Brazilian

stock Market index IBOVESPA

Joao Vitor Denardi Bosa
ECO-411 research Project
2015

Introduction
Technological developments in the media and information technology has
contributed to the integration of world stock markets. The integration of markets
means that the expected return of assets of the same risk class is the same in
different markets.
The Efficient Market Hypothesis - HME states that stock prices are not
predictable because behave like a random walk, not allowing the arbitration. In
addition, the HME focuses on the market individually, a single one, as if there
were only "the Market. However, there are other more developed markets that
lead them to have different characteristics, among them, the difference in size.
The New York Stock Exchange, for example, is many times greater than the Stock
Exchange of Sao Paulo, Brazil (BOVESPA). Because of that, there is a widespread
belief in Brazil that general in his the stock market incorporate the movements of
other major world markets.
In this situation, there would be a home break and it would be possible to
predict, with some degree of confidence, price movements in the market , being
possible to obtain abnormal returns.
The objective of this project is to verify the existence of this effect
between the G7 and BRICS countries stock market with the Brazilian stock
market to awnser if the popular belief in Brazil is true or false. The project aim to
check also the possibility of using the Brazilian stock Market to predict other
BRICS stock markets.


Figure 1 - Stock markets used

Results
Due to difficulties in obtaining correct data in days, the project was done
with weekly data, from Jan 1, 2013 to Nov 30, 2015 and obtained on
http://finance.yahoo.com . The data are the adjusted close value of most relevant
stock market indexes of each country, ^BVSP, ^GDAXI, ^GSPC, ^FCHI, ^HSI,
FTSEMIB , ^FTSE ^BSESN, analysed with the statistical software R (libraries
forecast, vars and tseries). All are shown below:


Figure 2 All stock Market indexes used

Using ADF and Phillips-Perron test to check for data stationary, it was found that
all data was not stationary, so the difference of log of each one was tooked to get
the rate, and tested again for stationary. Now all variables became stationary
with p-value lower than 0.01. Due to large number of results, this project will be
showing just relevant ones.

Figure 3 Example of IBOVESPA (BRAZIL) results of stationarity

It was created a bivariate VAR with IBOVESPA (BRAZIL) and all other
stock maket indexes. The vector autoregression (VAR) is used to capture the
linear interdependencies among multiple time series. VAR models generalize the
AR model by allowing for more than one evolving variable. For our model, it was
estimated VAR with appropriate number lags, chosen based on model select
criterias like AIC and BIC. All tests indicate using VAR(1) model, using BIC as a
tie-breaking fator.

Figure 4 Example of tie-breaking using BIC/SC. 1 lag selected.

A bivariate VAR (1) can be written as:

A causality test was performed to estimate if one variable Granger cause

the other. All results are show on table 1 and table 2.
Null hypothesis
p-value
Situation
Germany does not Granger cause IBOVESPA
Accept
0.7281
Canada does not Granger cause IBOVESPA
Accept
0.7614
USA does not Granger cause IBOVESPA
Accept
0.9201
France does not Granger cause IBOVESPA
Accept
0.7934
Italy does not Granger cause IBOVESPA
Accept
0.8628
Japan does not Granger cause IBOVESPA
Accept
0.7710
UK does not Granger cause IBOVESPA
Accept
0.4344
Russia does not Granger cause IBOVESPA
Accept
0.4082
China does not Granger cause IBOVESPA
Accept
0.8128
India does not Granger cause IBOVESPA
Accept
0.6788
Table 1 Results of other countries stock Market indexes Granger causing
IBOVESPA

Null hypothesis
IBOVESPA does not Granger cause Germany
IBOVESPA does not Granger cause Canada
IBOVESPA does not Granger cause USA
IBOVESPA does not Granger cause France
IBOVESPA does not Granger cause Italy
IBOVESPA does not Granger cause Japan
IBOVESPA does not Granger cause UK

p-value
0.7942
0.7717
0.8958
0.5605
0.4958
0.6081
0.4361

IBOVESPA does not Granger cause Russia

0.0875

IBOVESPA does not Granger cause China

IBOVESPA does not Granger cause India

0.0343
0.2287

Situation
Accept
Accept
Accept
Accept
Accept
Accept
Accept
Reject at
10%
Reject at 5%
Accept

Table 2 Results of IBOVESPA Granger causing other countries stock Market

indexes.

Looking at the results, we can conclude that none country stock Market
indexes are useful to predict IBOVESPA. However, IBOVESPA looks useful to
predict China and Russia stock market indexes at 95% and 90% significance
level, respectively. So, it was done a 1-step ahead recursive forecasting with
bivariate VAR models and the AR model of Russia and China as dependent
variable to predict from June 2014 to November 2015 to test whether VAR
forecast RMSE is significantly different than AR forecast MSE. Since the model
are nested, Clark and west comparison test was used.
The p-value from Clack and West test was 0.2523303 for VAR(1) using
China stock index and 0.3801292 for VAR(1) using Russian Market index, so we
dont reject the null hypothesis that the VAR model dont improve RMSE.

Conclusion
Using weekly data, it can be concluded that the Brazilian belief is false: its
stock Market cant be predicted by order stock Market indexes around the world.
However, we must not generalize this result. The research was done with weekly
data, and if the data was daily or even minute by minute, it could show revealing
results. Ibovespa was also not useful to predict other markets . By now, we
conclude that the Market is eficiente and Efficient Market Hypothesis works well.