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THE IMPACT OF STOCK RETURNS ON INFLATION

                             ABSTRACT

 

This paper examines the relationship between stock returns

and inflation. We focus on various econometric techniques to

test this relationship, using monthly values of the Nigeria Stock

Exchange Price index and the Nigeria Consumer Price index over

the period 1988-2013.

 

The results from a simple OLS model show evidence of a positive but not significant relationship, while when we consider a system of equations including lagged values of inflation we find a negative but not significant effect of lagged inflation to stock returns.

 

Using the correlation test, we find that there is no long-run relationship between stock returns and inflation in Nigeria. The results indicate that the inflation rate is not correlated with stock returns.

 

 

 

 

 

CHAPTER ONE

1.0    INTRODUCTION

1.1    BACKGROUND OF THE STUDY

The last two decades have been a tranquil for the Nigerian economy. Inflation rate for example, rose markedly in the fourth quarter of 2008 reaching a 3-year high of 15.1 per cent in December from its single digit level of 7.8 per cent at end of March, 2008. Precisely, the inflation rate was 6.5 per cent in December 2007. The inflationary

pressure which continued into 2009 as some sources have it (notably the Central Bank of Nigeria, 2009), may have been attributed to rising food prices, inefficient and poor transport services, port congestion, depreciation of the naira and the rush to spend budgetary allocations by government agencies before fiscal year end (Sampson, 2009).

 

During the same periods, the Nigerian capital market experienced a bullish trend when it started the year 2008 at 58,580 (with a market capitalization of N10.284 trillion), and went on to achieve its highest value ever of 66,371 on March 5, 2008,with a market capitalization of about N12.640 trillion (Aluko, 2008). The capital market has

since the March 5 to October, 2008 lost about N3.38 trillion, over 26.7 percent; as market capitalization stood at N9.11 trillion. Nigeria equally faced a major decline in portfolio equity flows perceived to be correlated with the sharp fall in stock market. For instance, foreign portfolio investors withdrew $15 billion from the Nigerian capital market in January 2009 (Ajakaiye and Fakiyesi, 2009).

 

 

The All Share Index (ASI) consequently shred a total share of 67 per cent from March 2008 to March 2009. In attempt to find some reprieves for the continuous bearish trend in the market, the Central Bank of Nigeria took over the management team of 8 commercial banks effective from August 14, 2009 as the illiquidity in the capital

market dove-tailed into the money market. The action described as a hybrid attempt to restructure these banks as a result of their debt exposure to the capital market is beginning to have its toll on the average general price level as analysts speculate precautionary cash balances. One puzzle left to be answered is if the sharp movements in general prices (inflationary) during these years have any linkage with the bullish/bearish capital market dominated activities before and after the 2008 crash.

 

This paper investigates the relationship between inflation and stock market returns using Nigerian data. Specifically, we effect the analysis by exploring the distinct impacts of inflation on the stock market returns at different time horizons, and also test the Fisher hypothesis by examining the relationship between, (b)

contemporaneous inflation and stock market returns, and (c) between inflation and money on the one hand, and

between inflation and real activity on the other. The outcomes of the analyses are expected to be of immense importance to investors particularly, in reaching rational decisions on asset allocation and advancement of the literature on financial economies.

 

1.2    STATEMENT OF THE PROBLEM

 

1.3    OBJECTIVE OF THE STUDY

The aim of the study is to examine the relationship between inflation and stock returns in Nigeria. Here are the following objectives of the study:

 

1.      Examine the the relationship between inflation and stock market prices.

2.      Examine the relationship,money,and real stock market activities

3.      Critically examine why there is seem to be abnormal effects on the stock market prices when there is an increase or decrease in inflation

4.      Make recommendations in the night of the finding from the above objective.

 

 

 

1.4    SIGNIFICANCE THE STUDY

 

This paper examines the relationship between stock returns and

inflation in Nigeria. Also, in this study we test for correlation and

causality among these variables.

 

The main goal of this paper is to analyse the above relationship for a recent period, considering data after the date of Nigeria’s entry into the stock market. So, we employ monthly values of the Nigeria Stock

Exchange (NSE) General Price Index and the Nigeria Consumer Price

Index for the period October 1988 to December 2013. All data are

collected from DATASTREAM.

 

 

1.5    LIMITATIONS OF THE STUDY

 

This study will be limited to the following areas: limited number of companies. Also,most companies are very reluctant to give out their data. The various NSE quarters were also reluctant to release all our requested data for protective reasons.

 

Any short coming that may arise in this research project is a result of factors which are beyond the researchers control such as limited amount of time available to the researcher and the extent to which the information obtained from bank is correct.

 

TABLE OF CONTENT:

 

CHAPTER ONE

INTRODUCTION

1.1     Background of the Study

1.2     Statement of the Research Problem

1.3     Objectives of the Study

1.4     Significance of the Study

1.5     Research Questions

1.6     Research Hypothesis

1.7     Conceptual and Operational Definition

1.8     Assumptions

1.9     Limitations of the Study

 

CHAPTER TWO

LITERATURE REVIEW

2.1     Sources of Literature

2.2     The Review

2.3     Summary of Literature Review

 

CHAPTER THREE

RESEARCH METHODOLOGY

3.1     Research Method

3.2     Research Design

3.3     Research Sample

3.4     Measuring Instrument

3.5     Data Collection

3.6     Data Analysis

3.7     Expected Result

CHAPTER FOUR

DATA ANALYSIS AND RESULTS

4.1     Data Analysis

4.2     Results

4.3     Discussion

CHAPTER FIVE

SUMMARY AND RECOMMENDATIONS

5.1     Summary

5.2     Recommendations for Further Study

Bibliography

 

 

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