Co-integration between NYSE and NIFTY: An Analysis · of integration of UK and overseas stock market such as West Germany Netherlands, Japan and US by employing the Grangers Causality

SIT Journal of Management Vol. 3. No. 2: December 2013, Pp. 39-50

Sharma*& Dixit** ISSN:2278-9111

Co-integration between NYSE and NIFTY: An Analysis

Dr. Kapil Sharma*, Amit Dixit**

Abstract

In a country like India, where the stock market is undergoing significant transformation with the

liberalization measures, there are also concerns regarding its exposure to risk in case of a global/

regional crisis, i.e. a need to know how far a depression or crisis in another market can affect the

Indian stock market in a more and more globally integrated environment. Hence, the analysis of the

nature of co- movements or long term dependencies with other developed and regional emerging

markets would not only give an idea of the of possible gains out of portfolio diversification to be

reaped from the Indian market but also may give some indication of the vulnerability of the country’s

stock market in case of a regional crisis.

Keywords: Stock Market, Liberalization, Globally Integrated Environment, Regional Crisis.

*Dr. Kapil Sharma, Associate Professor Institute of Management Studies, Devi Ahilya

University, Indore-M.P Email: [email protected]

**Amit Dixit, Assistant Professor, Faculty of Management Studies-Acropolis, Devi Ahilya

University, Indore-M.P, Email –[email protected]



Introduction

Effect of globalization has lead to increase in stock markets of the. This speed of Global

integration is bound to increase in the coming years. The process of internationalization

results in an increase in the foreign factors of production, inviting more foreign investment,

and technology .The financial markets around the world have expanded at a very faster rate in

the last few decades. Money has started moving rapidly from one country to another in form

of loans, FDI, foreign currency markets etc. The international linkage of national money and

capital markets has also grown rapidly with the removal or relaxation of restrictions on

financial flows across national borders, deregulation of financial institutions and international

financial innovations. The term stock market cointegration refers to identifying the presence

of long term dependencies across two stock markets. The present study tries to examine the

cointegration of the Indian stock market in recent years, with the major stock markets in the

US which is said to be one of the developed and sophisticated markets in the world.

Review of Literature

The general view within the literature is that correlations between assets are time-varying,

with evidence in particular noting increases in correlations across international stock markets

at times of stress (see, for example, King and Wadhwani, 1990; Karolyi and Stulz, 1996;

Forbes and Rigobon 2002) and at different stages of the business cycle (Erb et al, 1994;

Longin and Solnik, 1995). However, it is unclear as to whether correlations amongst equity

markets have trended upwards over time, although at present, the balance of evidence

suggests that they have(see, for example, Roll, 1989; King et al, 1994; Longin and Solnik,

1995; Rangvid, 2001; Goetzmann et al 2001).

The extant literature has largely conducted investigations of international equity market

correlations and convergence along two lines. The first line of enquiry examines whether

there is any evidence of co integration amongst international stock indices (see, for example,

Taylor and Tonks, 1989; Kasa, 1992; Corhay et al, 1993; 2Aggarwal and Kyaw, 2005;

Fraser and Oyefeso, 2005). The belief being that should stock markets exhibit cointegration

and therefore follows the same long-run time path (or stochastic trend) then any gains from

diversification across an international portfolio will be confined to short-run horizons when

markets temporarily diverge from their long-run path. On balance, evidence from the papers



cited above lends support to the belief that co-movement does exist in the long-run behavior

of series.

It is well propounded by Raj et al. (2009) that the Indian stock market is integrated with

other global markets of the US, the UK and Japan and other major regional markets in Asia

such as Singapore and Hong Kong by VECM model and found that the integration of the

Indian stock markets with global markets such as the US and UK is much higher than with

the regional markets. Whereas Ashwin et al. (2008) has studied the long term and short term

co-movement among the developed market and emerging market with the help of co

integration technique. They had studied the co-movements of the BSE, BVSP, MXX,

HANGSENG, RTS, FTSE100, DJIA and NASDAQ stock markets by using daily returns data

for the July 1, 1997 to June 30, 2008 period. They found that the correlation of BSE with

BVSP, MXX, FTSE100, DJIA and NASDAQ is low. Moreover, Noor, Azuddin Yakob,

Diana Beal and Delpachitra, Sarath (2006) studied the stock market seasonality in terms of

day-of-the-week, month-of-the year, monthly and holiday effects in ten Asian stock markets,

namely, Australia, China, Hong Kong, Japan, India, Indonesia, Malaysia, Singapore, South

Korea and Taiwan. He concluded that the existence of seasonality in stock markets and also

suggested that this is a global phenomenon.

Bose and Mukharjee (2006) examined the co movement of the Indian stock market with

developed markets like US, Japan and other Asian markets with using tools like pair wise and

group wise co integration and granger-causality test .They found that on a daily bases the

Indian index is most highly correlated with the Singapore STI index, and it is also very highly

correlated with the stock indices of Malaysia, South Korea, Taiwan and Thailand , while the

least correlation is observed with the US S&P 500 index. Stock return in India are seen to be

highly correlated with returns in major markets like Hong Kong, Singapore, and Korea and

also with Thailand and Taiwan , while lowest correlations are observed.

Lamba (2005) conducted research on short run and long run relationship between India,

Pakistan and Sri Lanka and major developed market during July 1997 - December 2003.

Using a multivariate co integration framework and vector error-correction modeling, they

found that the Indian market is influenced by the US, UK and Japan and South Asian equity



markets are becoming more integrated with each other but at a relatively slow pace. Goh

(2005) looked at the dynamic relationship among the five ASEAN markets, namely,

Singapore, Malaysia, Indonesia, Thailand and the Philippines. They found that the co

integration among the stock indices before the crisis but not during the crisis. Panayotis

Alexakis has investigate the possibility of short and long term statistical relationships among

the organized stock markets of Greece and the U.K.during the period 2001-2005

Mukharjee and Mishra (2004) applied the Engel-Granger (Engel and Granger1987) test of

causality and co integration and Geweke measure of feedback to empirically investigate the

hypothesis that the Indian stock market is not co integrated with other national markets in the

long run and there is no cause and effect relationship among those markets .The granger’s

causality test and unidirectional Geweke feedback statics proved the fact that though Indian

equity market have some influence on the stock market of some of the Asian countries , the

equity market of European and American countries are not at all influenced / caused by India.

Poshakwale, Sunil (2002) examined the random walk hypothesis in the emerging Indian

stock market by testing for the nonlinear dependence using a large disaggregated daily data

from the Indian stock market. The sample used was 38 actively traded stocks in the BSE

National Index. He found that the daily returns from the Indian market do not conform to a

random walk. Daily returns from most individual stocks and the equally weighted portfolio

exhibit significant non-linear dependence. This is largely consistent with previous research

that has shown evidence of non-linear dependence in returns from the stock market indexes

and individual stocks in the US and the UK. Bae, K, Cha B, and Cheung, Y (1999) the

researchers tried to show the information transmission mechanism that operates for stocks

which are dually listed. This has helped in understanding the channel of transmission of

information that makes the exchanges dependant on each other.Masih, M.M. Abul and

Masih, Rumi (1997) examined the dynamic linkage patterns among national stock exchange

prices of four Asian newly industrializing countries - Taiwan, South Korea, Singapore and

Hong Kong. The sample used comprised end-of-the-month closing share price indices of the

four NIC stock markets from January 1982 to June 1994. They concluded that the studies of

these markets are not mutually exclusive of each other and significant short run linkages

appear to run among them.



Hassan and Naka (1996) investigated the dynamic linkages among the U.S., Japan, U.K.

and German stock market and found significant evidence in support of both short-run and

long run relationships among these four stock market indices. They suggested that in co

integrated markets, price movements in one market immediately influence other markets,

consistent with efficient information sharing and free access to markets by domestic and

foreign investors. Lau, S T and Diltz, J.D. (1994) studied the transfer of information among

Tokyo and New York stock exchanges and also examined the financial integration of capital

markets in developing nations gave insight with regards to the methodology and the area of

study followed.

Cheung and Mak (1992) studied weekly return series of the Asian—Pacific emerging

markets for the period 1977 to 1988 and concluded that The US market can be considered as

a 'global factor' and is found to lead most of the Asian – Pacific emerging markets except

Korea, Taiwan and Thailand. The Japanese market is found to have a less important influence

on the Asian pacific emerging markets. Kasa (1990) suggested that the short-term return

correlation between stock markets is not appropriate from the perspective of long-horizon

investors driven by common stochastic trends. A co integration model is useful since it not

only distinguishes between the nature of long-run and of short-run linkages among financial

markets, but captures the interaction between them as well.

An early study by Eun & Shim (1989) highlights the influence and power that the U.S stock

market has on the stock markets of eight other developed countries. Findings indicate that a

substantial amount of interdependence exists, where the U.S stock market represents the most

influential world economy having by far a dominant position when it comes to producing

valuable information that affects world stock markets. Empirically they found that

innovations in the US stock market were rapidly transmitted to the rest of the world, whereas

innovations in other markets did not have much effect on the US market.

In short, the main emphasis of previous mentioned studies has been determining how

integrated markets are by examining the extent of the co-movements that stock markets



exhibit. By flipping the coin, we find a smaller amount of studies that attempt to determine

why stock markets are integrated.

Solnik(1987) employing regression analysis on monthly data for eight industrialized

countries from 1979-83 found a weak but positive relation between real domestic stock

returns and real exchange rate movements.

Taylor, M.P (1988) studied the impact of the abolition of UK exchange control on the degree

of integration of UK and overseas stock market such as West Germany Netherlands, Japan

and US by employing the Grangers Causality and Engel Granger Co integration test over the

two sub periods spanning from April 1973 to september 1979 and Oct.1979 to June 1986

respectively, the study concluded, there has no significant increase in the correlation of stock

market returns as a result of the abolition of exchange control. Co integration test confirmed

that the UK and foreign (non UK) stock market indices were co integrated in post 1979

period but not before that.

Ma and Kao (1990) using monthly data from 1973 to 1983 on six major industrialized

countries and found that domestic currency appreciation negatively affects the domestic stock

price movements for an export dominant economy and positively affects an import dominate

economy.

Jorion (1990) found a moderate relationship between the rate of return in US multinational

firm as common stock and the rate of change in a trade weighted value of US solar over 1971

to 1987

Chung (1990) examined empirically how price limit affects price volatility in Korean stock

market and found the direction and extent of it. In addition to this, it investigates how the

price limit system affects the relation between the trading activity and volatility. Daily returns

of 81 sample firms were used in the equality test among the volatility of the different price

level. The results of the study showed that the volatility of KSE was about 2.4 higher than

that of the NYSE, which did not adopt price limits. There is no evidence that the respective

price limits decrease volatility. The study shows that the positive relation exists between



market volatility and the growth rate of trading volume, even though the relation seems to be

significantly diluted by price limits.

Mohsen Bahmani OS Kooee and Ahmad Sohrabian (1992) analyzed the long run

relationship between stock prices and exchange rates using co integration as well as the

casual relationship between the two by using Granger Causality test and concluded that there

is a dual causal relationship between the stock process and effective exchange rate, at least in

the short run.

Rationale of the Study

The main objective of this research is to unfold the determinants and the driving forces

behind stock market relationships including both developed and emerging markets, which

may indeed be of greater value for investors that struggles with portfolio-diversification

choices and for policy-makers and regulatory bodies that are keen to know what types of

determinants and treaties with other countries that might affect the national stock market,

especially during turmoil periods.

Studying the co-movements of the Indian Stock Market with other Stock Markets for

portfolio diversification has been a popular research topic in finance. Low correlations

between national stock markets are often presented as evidences in support of the benefit of

global portfolio diversification. Global portfolio studies generally emphasize the mean

correlation between national stock markets. However studies demonstrate that correlation

between national stock markets can fluctuate considerably over time. Researchers have used

time varying correlation analysis to study the portfolio diversification implications of the co-

movements of the Indian stock market. The ultimate aim is to study the impact of financial

and economic crisis on the co-movements of the NYSE AND NIFTY

Research Objectives

The main objective of this study is to capture the trends, similarities and patterns in the

activities and movements of the Indian Stock Market in comparison to its international

counterpart.



To test the hypothesis, ‘whether various stock exchanges globally have any impact on

each other or they are co related in any way with regard to their movements.

Research Methodology

The data was be collected from various web sites of internet like BSE, money control .com

and from Google Finance of Nifty & NYSE from 1st April, 2007 to 31st March, 2013, which

was published for the year taken into consideration.

Hypotheses Formulation and Tools

Various hypotheses were formed and were tested using statistical tools namely Correlation,

F-Test, Regression

Null Hypothesis 1: There is no significant relation between International stock exchange

(NYSE) returns & Indian Stock exchange (NIFTY) returns on daily basis.

Alternate Hypothesis 1: There is a significant relation between International stock exchange

(NYSE) returns & Indian Stock exchange (NIFTY) returns on daily basis.

Null Hypothesis 2: There is no significant impact of NYSE returns on NIFTY returns

Alternate Hypothesis 2: There is a significant impact of NYSE returns on NIFTY returns

Data Analysis

Regression

Variables Entered/Removedb

Model

Variables

Entered

Variables

Removed Method

1 nysea . Enter

a. All requested variables entered.

b. Dependent Variable: nifty



Model Summary

Model R R Square

Adjusted R

Square

Std. Error of

the Estimate

1 .008a .000 .000 1.76562

a. Predictors: (Constant), nyse

ANOVAb

Model Sum of Squares df Mean Square F Sig.

1 Regression .282 1 .282 .091 .764a

Residual 4411.116 1415 3.117

Total 4411.398 1416

a. Predictors: (Constant), nyse

b. Dependent Variable: nifty

Coefficients

Model

Unstandardized Coefficients

Standardized

Coefficients

t Sig. B Std. Error Beta

1 (Constant) .000 .047 .008 .994

nyse .004 .015 .008 .301 .764

a. Dependent Variable: nifty



Correlations

Correlations

nyse nifty

nyse Pearson Correlation 1 .008

Sig. (2-tailed) .764

N 1417 1417

nifty Pearson Correlation .008 1

Sig. (2-tailed) .764

N 1417 1418

Result & Discussion

The Correlation is found to be very weak for NYSE & NIFTY daily returns over a period of 6

years. The Value of Pearson’s correlation is 0.008 or merely 8% for a long term, which is

justified by significant two-tailed test. The Dependency or the impact of NYSE over NIFTY

Index returns (daily) is found to be very weak for NYSE & NIFTY daily returns over a

period of 6 years. The Value of F-test is 0.091 which indicates the same result. Thus we can

Conclude that in a long run the impact & relationship is very weak between two markets of

the leading economies. The degree of integration of world capital markets has been rallied by

a significant increase in private capital flows to emerging countries especially BRICs

Countries. Access to world capital markets expands investors’ opportunities for portfolio

diversification and bestows a potential for achieving higher risk-adjusted rates of return. The

study has examined the co movement of the two selected stock market for the period, 1st

April, 2007 to 31st March, 2013. The study of the existence of co-movement among

international capital markets has serious implications for portfolio diversification as well as

macroeconomic policies of individual countries.

Limitations

The economies are undergoing through different reforms and fundamentals keep on

changing therefore due care should be taken while taking investment decisions. This

study alone should not be taken as the basis of selection of stock market.



Time period is a limitation as the research had to be completed in just a period of few

busy months.

The data taken in to consideration for research was from 1st April, 2007 to 31st March,

2013 which is short to come to any long term generalization.

Finally, more research needs to be carried out on more complex models to come to a

more concrete and accurate result.

Future Scope of Study

It is also clear that the results of co integration vary, due to selection of frequency of

observations daily, weekly or monthly. So, the potential area for further research on the issue

of co movement is to use high frequency data (daily, weekly). The other avenue for future

research is to study spillover/contagion effect by means of volatility models.

Conclusion

The study brings forth some distinct conclusions many of which validate popular beliefs. The

objective of the whole research was to try and compare the stock exchanges based on certain

parameters in order to understand the impact of integration of the financial world on the

various entities within it especially in the context of globalization and increased interest in the

capital markets fuelled by surging growth. The various researches that have been studied

traced the gradual ‘coming of age’ of the Indian stock market over the past decade without

actually arriving at any conclusive evidence on the comparative position of our stock

exchange with that of other global ones. The studies mainly looked at various aspects of

efficiency in the stock market on a standalone basis and tried to draw conclusion regarding

the state of our maturity. However, the current study tried to use the comparison method to

benchmark the performance of our stock market with that of a selection of global stock

exchanges on the basis of their diversity with respect to geo-sociopolitical-economy.



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Documents

Co-integration between NYSE and NIFTY: An Analysis · of integration of UK and overseas stock market such as West Germany Netherlands, Japan and US by employing the Grangers Causality