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Organization of the Study
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1.8 Organization of the Study This study is arranged in different chapters and each chapter has its content. The structure is as follow: chapter one is about the introduction; Chapter two is literature review; Chapter three is data and methodology; Chapter four is data analyses; Chapter five is conclusion. 9 CHAPTER 2 Review of Literature 2.0 Introduction China banking sector plays an important role in the development of financial system and the economy as a whole. The total deposits of the whole banking industry account in year 2008 more than 20% of GDP and higher than year 2006 and year 2007. But the profitability of the banking sector in China is still below international standards, so the performance of the banking sector in stock market is not outstanding and low valuation by market, so investigate the factors which can influence the return of banking sector of helpful to solve these problems and is essential for the investors and shareholders. In this study, it would like to study on four macroeconomic factors, such as inflation rate, exchange rate, money supply and interest rate, which each of them would contribute significant impacts to the movement of banking industry stock return. Next, the study will review the literatures of other’s. 2.1 Review of the Literature 2.1.1 Stock market development and the role of banks in China Mohammed and John (2001) said that, to achieve the objective of increasing the growth rate of economy, cannot without increasing the level of investment. And one of ways to obtain this investment is that creating a strong stock exchange market for attracting local and foreign investment. Liu and Shretha (2008) said that the development of the stock market is a milestone in China's economic reform process. Seddighi and Nian (2004) concluded that one of Chinese stock market’s characteristics is: high return and high volatility, and this characteristic is related to the corporate governance, government 10 interferences, and over speculation. There are two stock exchanges in Chinese stock market. One is Shanghai stock exchange which was formally established in 1990, the other is Shenzhen stock exchange which was formally established in 1991. Stock market in China has five types of shares; they are A-shares, B-shares, C-shares, H-shares and N-shares. The official name of A-shares is Renminbi A common stock, it is within the territory of China issued by the company, for domestic institutions, organizations or individuals (excluding Taiwan, Hong Kong and Macao) investors subscribed in Renminbi and trading of shares of common stock. B-shares which denominated in RMB also, but subscribed for traded in the US dollars or Hong Kong dollars. Either the US dollars or HK dollars are traded by foreign investors, until in early 2001, this restriction is relaxed. Individuals with legal foreign exchange accounts also can buy and sell B share. C-shares are the share that only trading among Chinese state institutions, enterprises and departments with a legal person status, individuals are not allowed to hold it. H-shares are about the Chinese companies issued their shares in Hong Kong stock exchange, so it’s called H-shares. And N-shares are the share that Chinese companies issued the share in the New York stock exchange. (Nicolaas,Sam and Wu, 2003; Green 2004; Seddighi and Nian, 2004). Banking system is a very important part for the economic growth. It is an essential part to complete the financial system. Banks offered service such as borrowing, lending and other activities, it play an integral or important role that contribute to the economic, especially to the financial aspect of a nation. Economic development of a country would be paralysis if without the soundness banking system. (Jeyanthi and Ailliam, 2010 ) There is a uni-directional relationship between Shanghai Stock Exchange (SSE) Index and bank stock price, the movement of SSE composite index will trigger the movement of almost all bank stock prices. Increase of SSE composite index has positive relationship with bank stock price. And bank stock price also can influence the SSE index. (Shujie, Dan and Stephen, 2008) 2.1.2 Bank stock returns 11 Jeyanthi and Ailliam (2010) indicated that return is a motivating factor that stimulated the investors to invest money into stock market. Return is a profit that earned from the stock's prices. Fama (1991) said that stock prices reflect earnings, dividends and interest rate expectations and future economic activity behavior. And stock returns affect the wealth of investors which in turn affects the level of consumption and investment. Rebel, Fariborz and Wu (2007) indicated that financial functions provided by banks and important in promoting economic growth. Banking industry stock return reflects the performance of a country’s banking sector. In addition, they proved that banking industry stock return can predict future economic growth and the positive and significant relationship is independent of the previously documental relation between market stock returns and growth. On the other hand, much of predictive power of bank stock return is captured by a series of country-specific and banking institutional characteristics. The commercial bank stock's performance is depending on two important issues in the emerging market, one is the position of bank to the economy, the other one is investment opportunities. So it is very important to know the risk factors that may influence the returns. (Girard, Nolan and Pondollo, 2010) There are many strong evidences supports that bank stock returns generating process is dependent by time-varying. And the risk measurement should also have timeliness. (Yourougou, 1990; Elyasiani and Mansur, 1998) Menike (2006) choose 34 companies which is represented by eight sectors be the sample, and used monthly data for the period from September 1991 to December 2002 to investigate the effect of macroeconomic factors such as interest rate, inflation rate, exchange rate and money supply on the emerging Sri Lankan stock market by using multiple regression model and the natural logarithm to calculate. The study choose nominal interest rate which measure by treasury bill yield rate; inflation rate is measure by the Colombo consumer price index (CCPI), the exchange rate is the nominal exchange rate and the money supply is used the broad money supply (M2). 12 The result shows that stock prices have a negative relationship with interest rate, inflation rate and exchange rate, and it has a positive relationship with money supply. 2.1.3 The impact of inflation on bank stock returns Inflation rate risk comes from the unexpected increase the price of things which include goods and services, so that leads to have an impact on the purchasing power of bank earning such as interest income. It would get less return and reduce the value of bank’s assets, equity and liability at the same time when inflation rate increases. Change of stock price as the link between inflation and stock returns. We can use the consumer price index CPI to measure the inflation rate because the fluctuation in the inflation rate represents proportion of risk associated with increase uncertainty in the movement of return. It is an important factor that should be concern because it is considered as one of the most serious problems to the economic and investors always have to take into account through their investment decisions. There are four variables lead to inflation: employment, consumption, production and unexpected increase in money supply. Increasing inflation rate can raise the nominal risk-free rate and discount rate in the equity valuation model. Unexpected inflation has a negative relationship with stock price (Liu and Shrestha, 2008). Tan and Floros (2012) used a total of 101 banks in China and annual inflation from 2003 to 2009 to examine the effect of inflation on bank profitability, while controlling for comprehensive bank-specific and industry-specific variables by using the two step generalized methods of moments (GMM), and the study found that there is a positive relationship between bank profitability, cost efficiency, banking sector development, stock market development and inflation in China. Gultekin (1983) used the model t+6 R 6,t = t I t+12 / t I t+6 – 1, where t I t+k indicates the forecast of an index (CPI, WPI, or S&P 500) made at time t for the month t + k. t+6R 6 , it’s the expected six-month rate of return on index I starting at month t + 6 and forecasted at time t. Likewise, the twelvemonth rate of return on an index can be computed for the period beginning at t + 6 and ending at t + 18 for each June. To 13 examine the Fisher hypothesis as a model relating expected stock returns and expected inflation and the study found that the expected real return on stocks is not constant over time but is positively related to expected inflation. Eita (2012) use quarterly inflation rate which represent by the consumer price index (CPI) and the proxies of stock market returns which represent by all-share index (ALSI) and gold index from 1980 to 2008 to investigated the relationship between stock market returns and inflation in South Africa and revealed that stock market returns and inflation in South Africa are positively related. An increase in inflation results in an increase in stock prices. The results also indicate that when all-share index is used as the measure of stock market returns, the causality is bi-directional. However, when gold index is used as a proxy for stock market returns, the causality is unidirectional, running from inflation to stock market returns. The positive association between these two variables suggests that equities are a hedge against inflation in South Africa. Lajeri and Dermine (1998) concluded that there was a negative impact of inflation on the market value of banks and the real economic activity and it would reduce the expected returns. And they used the three factors –model that combining a market factor, an unexpected interest rate and an unexpected to calculate the impact of unexpected inflation on the bank stock returns in France. And got the result is that inflation can be an independent factor that had an impact on bank stock returns. Modigliani and Cohn (1979) suggest that stock market investors are depended on the inflation illusion in the inflation illusion hypothesis. They mention that when the inflation increase, the investors tend to reduce the expected future earnings and dividends from the stock market and use the higher nominal interest rate to take the place of. So the stock price is undervalue when inflation is high and overvalue when the inflation become low. As a result, reach a negative relation between inflation and stock returns. Feldstein (1980) explain that the relationship between the higher inflation and lower stock prices in the tax hypothesis. He depend on the basic features of US tax laws summarize that there is adverse effect of inflation increasing on stock 14 price. From the proxy hypothesis of Fama (1983), Fama also got the result about a negative stock return-inflation relation. Because a positive relationship between stock return and real economic activity combined with a negative relationship between the real economic activity and inflation, leads to the negative stock return-inflation relation. And Fama (1981) also explained that the negative relation between stock market returns and inflation exists because of the correlation between inflation and future output. According to stock market returns reflect the future earning potential of the firm and an economic downturn predicted by an increase in the price level will cause the prices of stocks to decrease. Based on the equilibrium models, there are two factors can affect the relation of stock returns and inflation. They are supply shocks and demand shocks. Supply shocks such as oil price shocks, it would drive a negative relation between inflation and stock price, for example, if the oil price increase, then higher inflation will lead to lower stock price; And demand shocks such as monetary, it will drive a positive relationship between them. Just like if increasing the money supply, it will lead to increasing inflation and stock price (Lee, 2009). Through the effects of unanticipated inflation and unanticipated changes in expected inflation, nominal assets of a firm’s holding is a very important point that can explain the behavior of common stock returns. Unanticipated inflation can affect the real nominal assets but not real assets, and shareholders who hold the nominal assets less than the nominal liabilities would get the benefit from the unanticipated inflation, on the opposite, if the shareholder who hold the nominal assets more than the nominal liabilities, because of the value of equity would decline, then it will get the loss in this unanticipated inflation. Unexpected changes in expected inflation would affect to the nominal contracts through discounting the cash flow (French, 1983). 2.1.4 The impact of exchange rate on bank stock returns Exchange rate becomes more and more important for the China stock market. Renminbi appreciates will attract the hot money flow into china stock market. Then 15 will raise the stock prices (Wang 2010). Choi, Elyasiani and Kopecky (1992) found that the exchange rate can affect to the bank’s profit though exposure to foreign translation risk. Exchange rate as be an important financial and economic variable affecting common stock value. There are some reasons shows that why the bank stock returns can be responsive to exchange rate. Firstly, according to the contagion affection, random shocks can lead to higher volatility in financial market, investors such as bank also look abroad to invest in alternative financial assets. Diversification of international portfolio may lead an increase in the volatility of those assets returns, so greater exposure to exchange rate would affect bank stock returns when there is information impounds into their stock price. So arbitrage pricing theory will apply if exchange rate is priced factor that constitute important elements in the equilibrium price of stocks. Secondly, exchange rate has a directly affect to the financial institutions revenues and costs (Joseph and Vezos, 2006). With the increasing international trade and the capital movement day by day , exchange rate become more and more important to decide the business profitability and equity prices. There are many studies to investigate the relationship between exchange rate and stock prices using the data from developed markets. For the developing countries, also have some documents study about the influence between exchange rate movement and stock prices in the emerging financial markets. Economic theory suggests that the exchange rate has a very important influence in stock market by affecting cash flow, investment and profitability of the firms (Aydemir and Demirhan, 2009). Granger, Huang and Yang (2000) examined the relationship between these two elements by using the data from nine Asian countries through using a BVAR model. They found that exchange rate lead stock price in Korea, however, stock price lead exchange rate in Hong Kong, Malaysia, Thailand and Taiwan. The relationship between exchange rate and the stock price are attracting by economists because these two things both are playing the important roles that can 16 affect to the country economic development. Due to the various and changeable international business and capital inflow and outflow, these changes would increase the investment decision uncertainly and the risk of the investment increase as well (Mishra et al., 2007). Exchange rate can influence stock prices and it is also determined by marketing principles. It means that changes in stock prices would impact on exchange rate also (Granger et al, 2000). Exchange rate changes have impact on the import and export price for the firms (Joseph, 2002). Currency appreciation in a country, have both a positive and a negative impact to the firms. For the export firms, appreciate the money will lead to lose their competitiveness in international market, then it will make the profit decrease, and there is a negative influence in its stock price. The result is opposite to the case of importers. And depreciation of the currency would make adverse effects on exporters and importers. (Yau and Nieh, 2006) Pan et al. (2007) use the data of seven East Asian countries to study, over the period 1988 to 1998, and found that the exchange rate and the stock prices have a bidirectional causal relationship. Ajayi et al. (1998) study the relationship between exchange rate and stock market. According to results of study, currency depreciation has a negative influence to the stock market both in the short-term and long-term. 2.1.5 The impact of money supply on bank stock returns Seyed, Zamri and Wah (2011) study the relationship between four kinds of macroeconomic variables and stock market index in both China and India during the period from 1999 to 2009 and the study got the result that in the long run, money supply has a positive impact on the Chinese stock market and negative impact on the India stock market; but in the short run, money supply have negative and insignificant impact on the Shanghai stock exchange market. The loose monetary policy is good for stock market, which will increase the stock price. Otherwise, tight monetary policy has a negative influence on stock market. Generally, the stock price will decrease (Thorbeke, 1997). Money growth rate goes up will lead to inflation rate goes up. So increase the money supply may lead to increase 17 the inflation. An increasing inflation can affect the discount rate of valuation go up. That will have a negative influence with stock market. (Fama, 1981) Ehrmann and Fratzscher (2004) report that capital-intensive industries and the firms which are more financially constrained both are affected by the changes in monetary policy. Guo (2004) point out that the smaller firms’ stock returns would get more strongly impact by the monetary policy than the large firms. Other studies also provide evidence that monetary policy does have an impact on stock returns especially in a bear market (Chen, 2007). Some studies found that with the competitive bank market structure situation, there is a positive relationship between money supply and bank stock returns. (Zatul and Mohamed, 2007) Bank as a transmitter of changes of monetary policy, they use the optimizing behavior advantages to determine money supply (Holtemöller, 2003). According to the empirical evidence, changes in loan will lead to changes in deposits, and changes in deposits will affect money supply. Traditional bank’s products are loan and deposit, so it will have an impact on its profits and share prices. In different situations, such as financial crisis, financial deregulation or policy regime change, there are different impacts on bank industry and individual bank stock returns by changing money supply (Zatul and Mohamed, 2009). Lee (1994) said that there is a long-run equilibrium relationship between stock prices and money supply. Monetary policy whatever is a restrictive or an expansionary monetary policy might have bilateral effects to general economic. For the expansionary monetary policy, good for increasing in the supply of funds for working capital and expansion for all business to getting more profit, then the common stock prices will increase. For the individual investors, expansionary monetary means that lower interest rate will make lower required rate of return from bank savings, and thus, there is an excess liquidity in the market, it indicates there is an increase of demand to stocks because of getting the higher returns from the stock market, then the stock price will be increase. But monetary growth will lead to higher inflation and then, according to Fisher 18 equation, it will lead to interest rate increase and the higher required rate of return, then the money will flow into the bank from the stock market, makes the stock price decrease. Conversely, a restrictive monetary policy will reduce the growth rate of money supply and lead to higher interest rate and lower supply of funds for working capital and expansion for all business. Then companies will slow the developing and get less profit, and common stock prices will drop (Emrah, 2009). Muradoglu and Metin (1996) indicate that money supply and stock returns has a positive relationship in short-run dynamic model. Yildirtan (2007) reveals that an increase in money positively and strongly affects ISE 100 Index. Al-Sharkas (2004) shows that money supply (M2) has a positive influence on stock returns and Maysami et al. (2004) also point out that the positive relationship between changes in money supply (M2) and Singapore’s stock returns. 2.1.6 The impact of interest rates on bank stock returns Interest rate is one of the important macroeconomic factors which are directly influence to economic developing. Generally, interest rate is considered as the cost of capital, it means that the price paid for the use of money in a period of time (Mahmudul, 2009). Interest rate is one of macro-economic factors that have important influence to the common stocks. So that the bank stocks also can be responsive to this factor when it changes (Joseph and Vezos, 2006). And they also concluded that there are four important reasons that the bank stock returns are responsive to interest rate: first one is randon stocks can induce higher volatility in financial markets because of contagion effects which are highest in more volatile markets. Secondly, changes in interest rate would affect directly to the revenues and costs of financial institutions. Thirdly, changes in interest rate would have the impact to the bank’s assets and liabilities when banks role as a financial intermediaries. Finally, it will composition of bank’s balance sheet. Vaz, Ariff and Brooks (2008) used 51 banks in Australia which have 11 banks are listed on the Australian stock exchange and daily official interest rate to examine 19 the effect of publicly announce changes in official interest rate on the stock returns during the period from 1990 to 2005 and get the result Australian bank stock returns are not negatively impacted by the announced increase in official interest rate. According to Choi, Elyasiani and Kenneth (1992) research, they used 48 largest US banking institutions for the period 1975-1987 as a sample that examined empirical the sensitivity of the common stocks returns of large US banking institutions to interest rate by using multifactor index model: R=E+SF+Z. R means the nominal rate of stock returns. E means expect stock returns. F means a matrix of sensitivity coefficients to the risk factors. Z means idiosyncratic terms. This kind of multi-index model either can estimate directly, or has convenient mathematical properties if the indices are orthogonal to each other. And the mathematical properties can isolate the sensitivity of each factor after the exclusion of the correlated components. And get the result that interest rate has an important impact on bank stock return because it is a factor for the valuation of common stock of financial institutions while the returns and costs of financial institutions are directly dependent on interest rate. Bank’s profit comes from the difference of the interest income and interest transaction cost. So interest rate is very important for the bank stock returns because it will have an impact to the discount profit of bank. Change the interest rate will lead to reevaluation the bank’s discounted profit. That will lead to affect the bank’s returns (Choi, Elyasiani and Kopectky, 1992). There is a negative influence on bank stock return by interest rate change and the sensitivity of interest rate on bank stock return is different over the time.(Kwan,1991). So Yourougon (1990) pointed out that if the interest rate is stable, then it will have low sensitivity on bank stock returns and not significant for all kinds of industry. And he also point out interest rate have a significant impact on common stock of financial institutions, including banks. Many studies found that the sensitivity of the interest rate on bank shares more than interest rate to the sensitivity of the stock market. Furthermore, most of nonfinancial firms confirm that bank assets and 20 liabilities makes bank stock returns especially sensitive to changes in interest rate (Zhu and Li, 2007). There always has conflicting about bank stock returns sensitive to interest rate. Akella and Chen (1990) said that bank stock returns just sensitive to long-term interest rate but not to short-term interest rate. However, Mansur and Elyasiani (2004) find out whatever long-term, medium-term or short-term interest rate has significant affect to bank stock returns. Long-term and medium-term interest rate affects the bank stock returns with a greater extent than do a short-term interest rate. Kwan’s (1991) point out the interest rate sensitivity of bank stock returns is time-varying. Mahmudul (2009) used 15 countries which including developed and developing countries be a sample , they found that all of these countries , the interest rate has significant negative relationship with share price, changes of interest rate and changes of share price both determined by time series and panel regressions. The nominal contracting hypothesis suggests that the interest rate has a impact of a bank’s common stock return depends on the amount of net nominal assets held by the bank. Furthermore, lots of financial analysts and economicts also agree that the changes of interest rate can influence directly on banks revenues, costs and profitability (Yourougou, 1990). Gilkenson and Smith (1992) said that with the financial market liberalization process, most of the banks generally carry out their operations in foreign countries and are exposed to the interest rate because of volatile financial market conditions in recent years. Therefore, interest rate changes could have an adverse effect on the viability of banks because their impacts cannot be eliminated through risk management techniques. Kasman, Vardar and Tunc (2011) used a sample of Turrish banks to investigate the sensitivity of bank stock returns to interest rate changes over the period 1999-2009, by using both standard OLS and GARCH model, result is pointed out interest rate volatility is a main determinant in the bank stock returns volatility. Kwan (1991) used the two-index random coefficient model of the bank stock returns to investigate the interest rate sensitivity of the bank with time-varying. He 21 found that the changes of the level of interest rate and time-varying can sensitive to the bank stock returns that can be explained by bank assets and liabilities. According to the nominal contracting hypothesis, there is a relationship between the common stock returns and the changes of interest rate, generally, the interest rate sensitivity to the firm’s common stock returns is depend on the holdings of net nominal assets of the firm. The changes of interest rate have more sensitivity to the firm’s common stock returns when the firm has the higher proportion of the net nominal assets (Mark J and Christopher M, 1984). Yüklə 264,94 Kb. Dostları ilə paylaş:
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