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Integration of Indias stock market with Asian stock markets Seminar Paper Presented to
Mukesh Patel School of Technology Management and Engineering, SVKMs NMIMS University
In Partial Fulfilment of the Requirement for the Degree (MBA Tech) By Gaurav Kalya 312 2012
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Contents
ACKNOWLEDGEMENT ............................................................................................................................. 3 ABSTRACT................................................................................................................................................ 4 THE TREND OF FII IN INDIA BETWEEN 2001- 2010 ................................................................................. 6 RECESSION (2007-2009) ...................................................................................................................... 7 LITERATURE REVIEW ............................................................................................................................... 8 STOCK EXCHANGES AND INDICES ......................................................................................................... 10 METHODOLOGY .................................................................................................................................... 15 STATISTICAL MODELS ............................................................................................................................ 16 RESULTS AND ANALYSIS ........................................................................................................................ 19 GRAPHS ................................................................................................................................................. 20 COINTEGRATION ............................................................................................................................... 23 CONCLUSION......................................................................................................................................... 26 REFERENCES .......................................................................................................................................... 27
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I would like to express my sincere gratitude to Prof. R.C Agarwal (Faculty Mentor) for his inputs and feedback in developing the seminar paper. The guidance provided by him has helped me immensely to input content in the paper. The seminar paper has helped me in understanding the impact of Indian stock market on the performance of other Asian markets and vice versa. The research has enabled me to gain an insight of the parameters involved in the trading activity and would be of great help to me during the future course of my studies. I also would like to thank the Institute for providing me the opportunity to express my views through the seminar paper which has enabled me to gain an in-depth understanding of the topic undertaken by me.
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RECESSION (2007-2009)
The current crises emerged after the US housing prices dropped moderately in 2006-07, and after the US sub-prime mortgage markets made huge losses. In turn, these generated chaotic effects throughout the international financial system. Thereafter, the economic slowdown is spread to other markets. The confidence in many financial institutions was strongly damaged and share prices for investment banks dropped significantly at the end of 2007 and early 2008. The above analysis clearly supports the fact that the stock market in India has witnessed a phenomenal but uneven growth post liberalization which has been accelerated by the increasing activities of multinational companies. Thus, it is very interesting to know how far India has gone down the road towards international stock market integration, and whether any linkages have taken place among the stock indices of India and worlds major stock indices. The relationship between Indian stock markets and major developed stock markets by analyzing empirically the long-run pair-wise cointegration relationship and short-run dynamic Granger causality linkages between the Indian stock market and the major developed markets.
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Following graph shows the price movements of the index between the years 2001 to 2010
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Korean Stock Exchange Korea Exchange (KRX) is the sole securities exchange operator in South Korea with 1,757 listed companies having a combined market capitalization of $1.1 trillion. The Korea Composite Stock Price Index or KOSPI is the representative stock market index of South Korea. KOSPI was launched in 1983 with the base value of 100 as of January 4, 1980. The new market capitalisation based index, replaced the Index based on 35 blue chip stocks of the KSE [2]. Following graph shows the price movements of the index between the years 2001 to 2010
Following graph shows the price movements of the index between the years 2001 to 2010
Hong Kong Stock Exchange (SEHK) The HANGSENG Index is the main performance indicator of Hong Kong stock market. HSI was started on November 24, 1969, and constitutes 45 companies. It is currently maintained by Hang Seng Indexes Company Limited, which is a wholly owned subsidiary of Hang Seng Bank. It is a capitalisation-weighted stock market index. To be eligible for the index, a company must be defined as a local company by the SEHK and must have been listed for at least two years; the company must be among the top 90 per cent of the total market value of all ordinary shares and must be among the top 90 per cent of the total turnover on the SEHK.
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Indonesia Stock Exchange (IDX) It is a stock exchange based in Jakarta, Indonesia. It had 341 companies market capitalization of $269.9 billion, as of 28 June 2010. Two of the primary stock market indices used to measure and report value changes in representative stock groupings are the JSX Composite and the Jakarta Islamic Index (JII) [2].
Following graph shows the price movements of the index between the years 2001 to 2010
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The data is obtained from Yahoo website www.financeyahoo.com and covers the period January 1, 2001 to December 31, 2010. The weekly indices values are taken, as opposed to daily indices, to avoid the problem of non-synchronous trading when daily indices are in use, as daily indices may be influenced by some thinly traded stocks. An erroneous representation of the true relationships among these markets may thus result if daily indices are used (Hung and Cheung, 1995). To examine the trend of interdependence between the developed and emerging markets over time, the stock indices from the sample are further sub-divided into three sub-periods: January 1, 2001 December 31, 2003(Period I), January 1, 2004 December 31, 2006 (Period II) and January 1, 2007 December 31, 2010(Period III). Objective: The study will shed a light on the degree of integration between BSE and other Asian stock markets in the given timeframe. The objectives are: To calculate correlation and causality between BSE and other stock markets To determine the nature of causal relationship that exists, i.e., unilateral or bilateral To analyze how the degree of integration changes with the time period, especially pre and post recession
Hypothesis of the study H0: There is no significant integration between the two stock market indices. H1: There is significant relation between the two stock market indices. Study Design a) Study Type: The study type is analytical, quantitative and historical. Analytical because facts and existing information is used for the analysis, quantitative as relationship is examined by expressing variables in measurable terms, historical as the historical information is used for analysis and interpretation. b) Study population: population is the indices of other major stock exchanges of Asia & 30 stocks of Bombay stock exchange.
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Statistical Models
ented Dickey Fuller test and Phillips-Perron test to test the stationarity of the series.
STATISTICAL MODELS
Stationarity According to Engle and Granger, a time series is said to be stationary if displacement over time does not alter the characteristics of a series in a sense that probability distribution remains constant over time. In other words, the mean, variance and co-variance of the series should be constant over time. A nonstationary time series will have a time varying mean or a time varying variance or both or are autocorrelated.The degree of co-integration is closely related with stationary. A series is said to be integrated of order one [I (1)] if it has to be differentiated once before becoming stationary. Similarly, a series is of order two [I(2)] if it has to be differentiated twice before becoming stationary[4].
Theory of Stationarity Following are different ways of examining about whether a time series variable Xt is stationary or has a unit root
then X will be stationary. For this reason, series with unit root are often referred to as difference stationary series
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Testing Stationarity In general, the procedure start with whether the variables Y in its level form is stationary. If the hypothesis is rejected, then the series is transformed into first difference of the variable and tested for stationarity. If first difference series is stationary, this implies that Y is I(1). 44 H0: Series has Unit root : Non Stationary H1: Series does not have Unit root : Stationary Unit Root Test [Dickey Fuller Test]: Dickey Fuller test involve estimating regression equation and carrying out the hypothesis test. The AR (1) process is. Yt = C + Yt-1+ t Where c and are parameters and is to be white noise. If -1 < < 1, then Y is stationary series. While if = 1, y is non stationary series. Therefore, why not simply regress Yt on its lagged value yt-1 and find out if the estimated is statistically equal to 1? If it is, then Yt is nonstationary. This is the general idea behind the unit root test of stationarity. yt = C + t-1 + t Where = (-1), and the null and alternative hypotheses are Ho: = 0 ..Non Stationary H1: < 0 ..Stationary Unit root test [Augmented dickey fuller test] Yt = C + t-1 + 1 yt-1 + 2 y t-2 + ..+ p yt-p + t This augmented specification is then tested H0: = 0 Non Stationary H1: < 0 Stationary The unit root test is based on the following three regression forms: 1. Without intercept and trend (random walk) Yt = Yt-1 + t 2. With intercept (random walk with drift) Yt = + Yt-1 +t 3. With intercept and trend (with drift around a stochastic trend) Yt = T + Yt-1 +t Where, is the intercept/constant
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GRAPHS
The association between trends in other Asian markets and the Indian market, over various phases of ups and downs, is quite apparent from the graphical exposition [Graph 8-12] which depicts the movements of different market indices during the period January 2000 to Dec 2010.
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From the perspective of the Indian market, the study of its degree of integration with other markets has implications for possible portfolio diversification by foreign investors, especially as foreign investors are believed to be the new drivers of the market. KOREA India is cointegrated with South Korea throughout the period. This can be attributed to the trade between the two countries which has increased exponentially, exemplified by the $530 million during the fiscal year of 19921993, and the $10 billion during 20062007[5]. It increased its trade with India during the 1997 Asian financial crisis. It has also signed a free trade agreement known as Comprehensive Economic Partnership Agreement (CEPA) to reduce the tariffs on imports and exports and ease restrictions on foreign direct investments. It is the fifth largest source of investment in India. KOSPI grew by 253% over the whole period and has negative rate of returns only during recession. JAPAN It shows cointegration from the period of 2004-2006 and post recession. Japans economy faced a period of recession in the last decade. It started to recover during the period 20042006 when the whole world market was growing. This can be seen while comparing rate of return of NIKKEI over different periods [Table 13]. It has positive rate of return of 57% between the period 2004-2006 only. With the growth of the Indian economy, India is a big market for Japanese firms. But Japan does not influence the Indian market during the time of crises. It shows no integration from 2001-2003 and during recession. This can be explained by the fact that India
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CONCLUSION
This study explores the relationship between Indian and Asian equity markets over a period when much of the Indian market movements are perceived to be induced by FIIs, who continually move funds across global markets in search of the best possible returns. By applying the unit root test we find that all stock prices are nonstationary, as a consequence they can be used in cointegration methodologies. It is found that post-Asian crisis and up to mid-2004, the Indian stock market did not function in relative isolation from the rest of Asia and was highly correlated with stock markets of Korea and Indonesia. Despite existing restrictions on capital flows, the results suggest a strengthening of the integration of Indias stock market with global and regional markets. This is also proved by Granger causality that reflects a bidirectional relationship with most of the markets. The results also indicate varying degree of cointegrating relationships between the indices. Sensex is integrated with Jkse and Kospi over the whole time period while that with Nikkei and Sse takes place only post recession. Hangseng was cointegrated with Sensex before recession period. Consequently there is a sufficient room for portfolio diversification. An important new finding is that the crisis not only led markets affected by the crisis to be more integrated with each other but also caused them to be more responsive to the outside world.
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