THE RELATIONSHIP BETWEEN EXCHANGE RATE AND STOCK PRICE: DIFFERENCES ACROSS MARKETS LUNG

Abstract

This thesis focuses mainly on the long run relationship of exchange rates on stock prices and examines how the differences across market could possibly impact this long-run relationship. The model developed in the study draws its link from trade and portfolio theory. A pooled ARDL regression is performed on 16 years of monthly data for 20 countries from the G-20 and ASEAN-5. Panel unit root and cointegration tests were conducted prior to the regression to ensure the validity of the results. The hypothesis formulated are: (1) Export oriented nations exhibit negative relationship while import dependant nations would experience a positive relationship from exchange rates to stock price; this relationship is likely to be affected by difference in trade dependence across countries; (2) Currency and stock prices are substitutes and hence exchange rates should exhibit a negative impact on stock prices; this relationship is likely to be affected by the differences related to portfolio flows across countries. After controlling for factors related to development status, trade flows and portfolio investment flows, the empirical results shows that the sign of the long run multiplier of exchange rates are generally negative but are not related to any of the factors included in the study. This implies that the only differences across markets that matters in the determination of this relationship is probably the nature of trade i.e type of goods involved in imports and exports. Granger causality results were also used to examined the short run relationship and found that for some countries, there is a two-way feedback between stock prices and exchange rate.