Praveen-03123-Volatility of Share Price

8/7/2019 Praveen-03123-Volatility of Share Price

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M P Birla Institute of Management

A Research Report

On

VOLATILITY OF SHARE PRICES WITH RESPECT TO

ECONOMIC FACTORS

Submitted in partial fulfillment of requirement for the award of the degree of

Master of Business Administration

Of

Bangalore University

By

PREVEEN.NP.

Reg. No: 03XQCM6074

Under the Guidance and Supervision

Of

Dr.N.S.VISHWANATH

M.P.BIRLA INSTITUTE OF MANAGEMENT

Associate Bharathiya Vidya Bhavan

#43, Race Course Road, BANGALORE-560001

June 2005


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Acknowledgement

It is with great pleasure and gratitude that I acknowledge the contribution of

several individuals towards the successful completion of the project.

I sincerely thank Dr. Nagesh Malavalli, Principal, M. P. Birla institute of

Management, Bangalore for granting me permission to take up the project.

I would like to express my gratitude to Dr. N.S. Vishwanath, Project guide, for

his invaluable suggestion and encouragement, which are imperative for the completion of

this project.

Words cannot express the immense gratitude I have for my parents who have

been instrumental in shaping my career. I am thankful to all my friends and to all the

unseen hands that have made this project possible.

Preveen.N.P


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DECLARTION

I here by declare that this report entitled A RESEARCH ON

VOLATILITY OF SHARE PRICES WITH RESPECT TO

ECONOMIC FACTORS, has been prepared by me in partial fulfillment

of the award of the degree, Master of Business Administration at

Bangalore University. This report or a similar report on this topic has not

been submitted for any other examination and does not form a part of any

other course undergone by me.

Place: Bangalore PREVEEN N.P

Reg. No:03XQCM6074

Date: 17-06-2005


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INTRODUCTION

Macroeconomic Indicators and Stock Prices - Indian Evidence

This paper attempts to study the relationship of stock returns with

macroeconomic variables in Indian context. The data consists of 36 months

from feb2002 to feb2005 comprising of three macro indicators. We have

considered 3 macro variables for the study: Exchange Rate, inflation rate, FII.

Background:

It is widely believed that stock market is related to macroeconomic fundamentals

of an economy, as companies that are listed for trading in stock exchanges are the

ones who contribute significantly to the economy's growth. The notion that

macroeconomic factors can drive the movement of stock prices is now widely

accepted. However, it was only in the past decade or so that attempts have been

made to capture the effect of economic forces in a theoretical framework and

calibrate these effects empirically. According to standard stock valuation model,

the determinants of stock price are the expected cash flows from the stock and the

required rate of return. Chen, Roll and Ross (1986) showed that economic

variables have a systematic influence on stock return as a result of their effect on

future dividends and discount rate and they provided the foundation for the belief

in the existence of a long-term equilibrium relationship between stock price and

related macroeconomic variables. A central issue in macroeconomics is the

question of how financial markets are connected to the real side of the economy.

The issue has gained momentum due to increasing cross border movement of

funds as fund managers try to move to markets where possibility of higher returns

vis--vis risk is high. The ongoing integration of international capital markets and

the repeated occurrence of large financial crises have raised the concern about the


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topic beyond academic circles.

The co-integration of macroeconomic variables and stock market has been an

extensive area of research in financial econometrics. In financial economics, there

have been a number of studies concerning developed markets like US, Japan, UK

and European markets This study also investigates the short run causal

relationship between the stock market and other macroeconomic variables in India

for the period Feb. 2002 to Feb. 2005.

.


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Problem Statement:

Volatile markets are characterized by wide price fluctuations and heavy trading

within a short span of time. Volatility is a traditional worry of investors, and is

associated with fast-growing stocks, high P/Es, smaller companies, Information

Technology (IT) firms. Volatility of stock market is usually caused by company

news, economic factors like changes in forex rates, inflation rates, interest rates

etc.

Share prices fluctuations affect the investors wealth creation. In this context, the

study of the impact of economic events on the movement of share prices in stock

market is undertaken.

Objectives of the study:

1. To study how share prices fluctuate w.r.t economic factors

2. To enable the investors in exploring the investment opportunities using the

economic indicators

Hypothesis:

Null hypothesis (H0):

Economic factors do not affect the movement of share prices.

Alternate hypothesis (H1):

Economic factorsaffect the movement of share prices.


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Theoretical Framework

Volatility: Definition and Measurement

In pure financial terms, volatility is defined as, ' the degree to which the priceof a

security, commodity, or market rises or falls within a short-term period. As is

evident from the definition, volatility relates to the variability in the price of a

security. In the context of the stock market, volatility of the market refers to the

volatility ofthe indices of the securities within the market. In India, forinstance,

the Bombay Stock Exchange (BSE) SENSEX (a 30 scrip weighted index of

market capitalization) would be one of the relevant indices to look into for

examining stock market volatility. When examining the issue of stock market

volatility, it is relevant to measure percentage volatility of stock return. This

reflects the percentage change in the value of the amount invested in the stock

market. It reflects the change in the investor' s wealth. Theorists use various

measures ofvolatility like standard deviation, variance, co-efficient of variation, to

measure volatility of stock market return.

Stock market volatility is often classified as historical (actual) volatility or implied

volatility. The most common measure of historical or actual stock market volatility

is the standard deviation. In simple terms, standard deviation measures the

deviation ofthe returns ofequity fromits mean return. It is a relative measure i.e.standard deviation ofstock returns in one period can be compared with standard

deviation of another period to understand which period has been more volatile.

Generally, rolling standard deviation is used to measure actual stock market

volatility. The other measurement of volatility is the conditional volatility


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measured by a GARCH (1, 1) model. The, GARCH measure of volatility,

developed by Bollerslev (1989), is widely used to measure conditional volatility

i.e., volatility that is conditional upon variables other than the variable being

measured. It measures the impact ofthe variance

(or standard deviation) lag of a variable and the variance (standard deviation) ofitsresiduals in predicting the current value of the variable.

The less known, but important measure of volatility is ' implied volatility' . Thismeasure is the result of an important fact about derivatives: The price of thederivative along with the price of the underlying security produces twoobservations of the security' s price. Arbitrageurs have used this fact to profit bydetermining whether a security is improperly priced relative to its derivative

(Mullins, 2000).


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Review of Literature

In an early study, Geske and Roll (1983) found the linkage between

macroeconomic variables and stock prices in US but found a negative relationship

between stock prices and inflation. Chen, Roll and Ross (1986) found that

economic variables like industrial production index, change in risk premium and

inflation have a systematic influence on stock return and showed the existence of a

long run equilibrium relationship. However, they also found that oil prices and

consumption did not have significant effect on stock prices. In another study,

Mukherjee and Naka (1995) found that Jam\pese stock prices are linked to money

supply, inflation, real economic activity, long-term government bond rate,

exchange rate and interest rate. In another study, Naka, Mukherjee and Tufte

(1999) found that in Indian market, industrial production is the largest determinant

of stock prices while inflation is the largest negative determinant. Lee (1992)

showed a positive Ii relationship between stock returns and the real economy in

US. Gjerde and Saettem , (1999) showed that the stock returns respond negatively

to the change in the interest rate in Norway and found a positive relationship of

stock returns with oil prices and real economic activity. Asian markets have been

studied by Fung and Lie (1990), Leigh (1997), Granger, Huang and Yang (1998),

Kwon and Shin (1999), Maysami and Koh(2000). In a study by Nath and Samanta,

(2003a), it was found that the stock market and the exchange rate were not

generally co integrated in India and some amount of causal effect could be noticed

only late in 1990s. In another study, Nath and Samanta (2003b) examined the

changing pattern in extent of integration between foreign exchange and capital

markets in India using daily data and found that in V AR-framework empirical

results do not point much impressive causal relationship between returns except in

some specific years. However, they found using Geweke' s feedback measures

strong bi-directional as well as contemporaneous causal relationship between these


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markets.

From the existing literature, the linkage between macroeconomic variables and

stock prices have been established for major markets like US, Japan while for

other markets the same cannot be said for certainty.

Paper 1: The Stock Market and the Economy

This paper discusses that the stock market and the economy are deeply

Intertwined so that when something happens in one it affects the other.

Paper Summary:

This paper relates that stock market declines have a wide-ranging effect on many

sectors of the economy; therefore, the health of the stock market is seen as an

indicator of the general economic health. The author points out that drops in the

stock market often translate into decreased net worth for both households and

businesses, thereby, decreasing consumer spending and confidence, which

damages the economy. The paper concludes that one of a number of solutions

proposed to help stimulate the US economy includes tax rate cuts.

From the Paper:

"Certainly, the stock market is only one of the factors that can impact the

economy. Savage notes that almost all Americans are familiar with the textbook

example that World War II played an important part in stimulating America' s

economy. Importantly, given Americas recent actions in Iraq, war can have a

significant economic impact as well. Economist Robert Genetski notes that there

are several important caveats on war' s impact on the economy. He notes that

markets often soar in anticipation of a quick victory, but that if the "battle was to

be prolonged; any market rally would be quashed. This prediction bodes poorly


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for the economy given recent news of continuing American deaths in the ongoing

crisis in Iraq

Paper 2: The Impact of the Stock Market on the Economy -

This paper looks at the effect; the stock market has on the U.S. economy. It looks

at the effects of a declining stock market and a rising stock market. Also discussed

are to what extent the economy effects the stock market and how much the two are

intertwined. The paper also includes opinions and analyses from different experts

in economics, which help explain the relationship between the stock market andthe economy.

From the Paper:

Recent declines in the stock market have had a detrimental impact the economy

both in the United States and abroad. The stock market and the economy are

deeply intertwined. As such, stock market declines have a wide-ranging effect

on many sectors of the economy. Importantly, the health of the stock market isseen as an indicator of the general economic health. Thus, any decline in the

stock market is often seen as a negative prediction for the economy. Drops in

the stock market often translate into decreased net worth for both households

and businesses, and thereby decrease consumer spending and confidence,

resulting damage to the economy."


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Paper 3: An analysis of free market economies as opposed to controlled

economies

Abstract

This paper discusses the concept of free market economies. The paper contends

that most economists argue that free market economies are superior to controlled

economies because free markets are more efficient; they encourage individual

responsibility for decisions; the profit motive provides the strongest incentive to

individuals and firms to allocate resources for their most productive use and to

produce goods and services that the public wants, using the most efficient means

of production. The paper explains that controlled economies, contrastingly, suffer

from inefficiency as centralized decisions about production and prices create

artificial distortions in the economy and the lack of profit motive creates lethargy.

From the paper

"A "free market economy" is one in which most businesses are privately owned

and where individual producers and consumers determine the kinds of goods and

services produced as well as the prices of such products through a voluntary

exchange of goods and services. Competition is a key factor in market economies

as it keeps the prices of products in check, forces the competitors to enhance the

efficiency of their production process, and drives the inefficient producers out of

the market. Another important feature of a free market economy is that income is

distributed largely through the operation of markets.


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Research Methodology:

Secondary Data:Data collected was of BSE-SENSEX for the period From Feb 2002 to Feb.

2005 . The data would be collected from websites like domain-b.com,

economictimes.com, bseindia.com, Business newspaper, and journals.

Tools:

Tool to be used is correlation analysis using coefficient of determination

and T-test for hypothesis testing .

The Reason for choosing BSE-SENSEX comprising of 30 scrips from a

specified and non-specified list, is because the index has established a place

amongst investors, chartists, technical analysts of the market, the newspapers and

all other concerned with the securities market. Moreover, it has been widely

accepted as a fair reflector of the trend of prices on the Mumbai stock market

The following economic indicators and events will be taken intoconsideration for the period from 1st March 2002 to 28th Feb 2005.

1) FII: Any significant flow in FIIs to the equity market in these 36 months

would be considered for the study.

2) Inflation rates any significant changes (highest and lowest interest rates) for

every three months during period.

3) Foreign exchange rates for US $/ Re would be considered as majority of

Foreign exchange transaction takes place in US $. Any significant changes

(highest and lowest interest rates) for every three months during period.


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Scope of the study:

Since there are problems associated with volatile stock markets, the study

can help the investors to take informed decisions regarding buying or selling of

stock.

Limitation of the study:

1. The study is restricted to BSE 30.

2. Only three years1st

March 2002 to 28th

Feb 2005 data will be taken

for the study.

3. Only Economic factors will be considered.

4. Due to time & resource constraints only four economic factors like

Government policies, Interest rates, Inflation rate and foreign

Exchange rates will be considered.


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Operational Definitions:

1) Wealth management:

Wealth management can be defined as a professional service, which is thecombination of financial/investment advice, accounting/tax services, and

legal/estate planning for a fee. In general, wealth management is more than just

investment advice as it can encompass all parts of a person' s financial life.

The main function of wealth management includes maximizing the

Return on Investment (ROI) involved in various investments with minimum risks

to the investor.

2) High P/E:

P/E can be defined as a valuation ratio of a company' s current share price

compared to its per-share earnings.

Calculated as:

P/E shows how much investors are willing to pay per rupee of earnings.

In general, a high P/E means high projected earnings in the future.

However, the P/E ratio actually doesn' t tell us a whole lot by itself. It' s usually

only useful to compare the P/E ratios of companies in the same industry, or to the

market in general, or against the company' s own historical P/E.


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3) Owners wealth:

Owners wealth can be defined as the product of number of shares held by an

investor to the market price of the share.An investment in the equity of any company is likely to be most profitable if the

economy is strong and prosperous. So, the expectation of the growth of the

economy is favorable for the stock market. The growth of the national economy

can be used to forecast the growth of an industry or company and thus to

determine those areas offering good opportunities. This process will also help to

point out industries and companies that should be avoided because they appear to

offer less attractive opportunities. As a principle, a strong and stable economy with

real growth is favorable for investment.


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Graph showing the SENSEX movement:

Sensex movement

0.00

1,000.00

2,000.00

3,000.00

4,000.00

5,000.00

6,000.00

7,000.00

8,000.00

Feb-02

May-02

Aug-02

Nov-0

2

Feb-03

May-03

Aug-03

Nov-0

3

Feb-04

May-04

Aug-04

Nov-0

4

Feb-05

month/year

monthendclose

Close

The above graph shows the movement of SENSEX from February 2002 to

February 2005.As shown in the graph SENSEX has moved from 3562.31 in

February 2002 to 6713.86 in February 2005.

Criteria for Selection and Review of SENSEX Constituents

The scrip selection and review policy for BSE Indices is based on the objective of;


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Improvement

Transparency

Simplicity

QualificationCriteria:The general guidelines for selection of constituent scrips in SENSEX are as

follows

A. Quantitative Criteria:

1. Final Rank: The scrip should figure in the top 100 companies listed by Final

Rank. The final rank is arrived at by assigning 75% weight age to the rank on

the basis of six-month average full market capitalization and 25% weight age

to the liquidity rank based on six-month average daily turnover & six-month

average impact cost.

2. Trading Frequency: The scrip should have been traded on each and every

trading day for the last six months. Exceptions can be made for extreme

reasons like scrip suspension etc.

3. Market Capitalization Weightage: The weight of each scrip in SENSEXbased on six-month average Free-Float market capitalization should be at least

0.5% of the Index.

4. Industry Representation: Scrip selection would take into account a balanced

representation of the listed companies in the universe of BSE. The index

companies should be leaders in their industry group.


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B. Qualitative Criteria:

Track Record:

In the opinion of the Committee, the company should have an acceptable trackrecord

Index Review Frequency:

The Index Committee meets every quarter to review all BSE indices. However,

every review meeting need not necessarily result in a change in the index

constituents. In case of a revision in the Index constituents, the announcement of

the incoming and outgoing scrips is made six weeks in advance of the actual

implementation of the revision of the Index.

While selecting scrip from SENSEX, only those scrips were taken for study,

which was there in SENSEX on Feb 2005, and also from the day they are included

in SENSEX from March 2002. (All the co-efficient have been calculated)


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FII Inflows to India: Their Effect on Stock Market Liquidity and VolatilityStock markets in India were opened to foreign capital flows in 1992, with its

ramifications (both positive and negative). This paper examines two

consequences-liquidity (positive) and volatility (negative) in the past decade on

the Indian stock market(s). It finds that Foreign Institutional Investment (FII)

flows have enhanced liquidity of the Indian stock market. Stock market liquidity is

definitely higher post-liberalization. There is not much evidence to support the

hypothesis that FII inflows have led to volatility in the returns in the Indian stock

market(s). The paper uses Engel-Granger test of co-integration to examine the

impact of FII inflows on the Indian stock markets.

Stock market liberalization is a decision by a country' s government to allow

foreigners to purchase shares in that country' s stock market (Henry 2000). One of

the immediate effects of episodes of capital inflows on the stock market is the

boom that it causes in the stock price indices. In fact, in the nineties, the stock

market boom in several emerging economies has coincided by the increase of

capital inflows to these countries (Levine, 1997). The stock-market boom,

typically, does not last for the entire period of capital inflows. They usually start

with the initial surge in the capital inflows and end before the episode of capital

inflows completely subsides. This has been true in the emerging markets of Asia,

Latin America and Africa. However, whether this boom is good for the economy

is an issue that has not yet been completely settled in the studies so far. A stock

market boom has a ' wealth effect' on the investors in the stock market and this can

lead to a rise in aggregate demand (through consumption). On the other hand, a

consistent stock market boom can dampen the level and rate of savings in the

country as agents move from a low-return deposit market to a high-return stock


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market. Such shift in investor preference can be damaging in cases where the stock

market boom is led by capital inflows. Sudden stops or reversals in these flows

can leave the economy devoid of funds to sustain growth and development. This

has found to be true in Mexico and Argentina (Levine, 1997).

Given this fact, the consequences of such inflows on the stock market become an

important aspect of any study of capital inflows to a country. These papers briefly

examine the consequences and study two of these consequences viz., liquidity and

volatility in some depth in the case of India. This paper is divided into two

sections. Section 1 evaluates the impact of capital inflows on stock market

liquidity and Section 2 examines the impact on stock market volatility.


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Analysis of the Influence of Financial Institutional Investors on share prices

of different companies:

1) Effect of Changes in FIIs on BSE SENSEX Values:Correlation coefficient (r) = 0.979998

From the above table, while comparing the changes in the FIIs with the

changes in the BSE SENSEX Values, we get a correlation of 0.979998.

r2

= 0.9604, Now r2*

100 = 96.04 %.

Therefore from the above, we can interpret that change in FIIs affects the

BSE SENSEX Values positively.96.04% of the time the predicted value is

correct.

Effect of Changes in FIIs on various companies listed below;

2) ACC Share price:

Correlation coefficient (r) = 0.762369


changes in the ACCs Share price, we get a correlation of 0.762369.

r2

= 0.5812, Now r2*

100 = 58.12%.

Therefore from the above, we can interpret those changes in FIIs affects

the ACCs Share price predicted are true by 58.12times. There is error of

around 40%.

3) Bajaj Auto Share price:



changes in the Bajaj Autos share price, we get a correlation of

0.725664306.

r2

= 0.5266, Now r2*

100 = 52.66%.


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Therefore from the above, we can interpret those changes in FIIs affects

the Bajaj Autos share price considerably.

4) Bharti Tele Share price:

Correlation coefficient (r) = 0.868579From the above table, while comparing the changes in the FIIs with the

changes in the Bharti Tele Share price, we get a correlation of 0.868579.

r2

= 0.75443, Now r2*

100 = 75.443%.

Therefore from the above, we can interpret that changes in FIIs affects the

Bharti Tele share price positively.

5). BHEL Share price:



changes in the BHEL Share price, we get a correlation of 0.992611.

r2

= 0.9853, Now r2*

100 = 98.53%.

Therefore from the above, we can interpret that FIIs and B HEL share price

are almost perfectly co- related

6) CIPLA Share price:

Correlation coefficient (r) = -0.070323732


changes in the Cipla Share price, we get a correlation of -0.070323732.

r

2

= 0.00495, Now r2

*

100 = 0.495%.Therefore the two factors are almost negatively correlated.

7) Dr. Reddy Share price:



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changes in the Dr Reddys Share price, we get a correlation of 0.973186.

r2

= 0.9471, Now r2*

100 = 94.71% .

Therefore from the above, we can interpret that change in FIIs affects theDr Reddys share price i, e..Positively correlated.

8) Grasim Share price:



changes in the Grasim Share price, we get a correlation of 0.713656.

r2

= 0.5093, Now r2*

100 = 50.93%.

Therefore from the above, we can interpret that the change in FIIs affects

the Grasims share price not very much.

9) GACL Share price:



changes in the Hindalcos Share price, we get a correlation of 0.999976.

r2

= 0.999952, Now r2*

100 = 99.9952%.

Both have a perfect correlation.

10) HLL Share price:



changes in the HLLs Share price, we get a cor relation of 0.997634.

r2

= 0.99523, Now r2*

100 = 99.523%.

Both have a perfect correlation


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11) HPCL Share price:



changes in the HPCL Share price, we get a correlation of -0.72273.r

2= 0.52234, Now r2

*100 = 52.234%.

Predicted value is correct only up to 52.234%

12) Infosys Technologies Share price:



changes in the Infosys Technologies Share price, we get a correlation of

0.253972.

r2

= 0.0645, Now r2*

100 = 6.45%.

Negligible correlation

13) ITC Share price:



changes in the ITCs Share price, we get a correlation of 0.976829.

r2

= 0.9542, Now r2*

100 = 95.42%.

Error prediction is only up to 3%

14) Ranbaxy Share price:



changes in the cc Share price, we get a correlation of 0.979213.

r2

= 0.95886, Now r2*

100 = 95.886%.

Error prediction is only up to 5%


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15) REL Share price:



changes in the REL Share price, we get a correlation of 0.795997.r

2= 0.6336, Now r2

*100 = 63.36%.

Correlated up to a certain extent

16) RIL Share price:



changes in the RIL Share price, we get a correlation of 0.990304.

r2

= 0.9807, Now r2*

100 = 98.07%.

Positively correlated.

18) SBI Share price:


From the above table,

While comparing the changes in the FIIs with the changes in the SBI Share

price, we get a correlation of 0.999297.

r2

= 0.9986, Now r2

*100 = 99.86%.

Perfect correlation

19) TATA Motors Share price:



changes in the TATA Motors Share price, we get a correlation of 0.348353.

r2

= 0.12135, Now r2

* 100 = 12.135%.


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Only 12% of the time the predicted value is correct

20) TISCO Share price:Correlation coefficient (r) = 0.245828


changes in the TISCO Share price, we get a correlation of 0.245828.

r2

= 0.060431, Now r2

* 100 = 6.0431% .

Therefore from the above, we can interpret that changes in FIIs affects the

TISCO share price by 6.0431%. To illustrate, if FIIs invest more in the

BSE, then the TISCO Share price would decrease by 6.0431%.

21) ZEE TeleFilm Share price:



changes in the ZEE TeleFilm Share price, we get a correlation of 0.914935.

r2

= 0.8371, Now r2

* 100 = 83.71% .

Therefore from the above, we can interpret that change in FIIs affects the

ZEE TeleFilm share price positively.


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Inflation

This was written for Business India, and was carried in its July 19, 2004 issue

with the same title.

As someone once said with a dash of humor, `Inflation is when you pay fifteen

dollars for the ten dollar haircut you used to get for five dollars when you had

hair.' But the dent inflation makes in your investments is far from humorous. In

fact over the long-term the `damage' is significant enough to make the most

unflappable investor sit up and take notice. First, let' s understand inflation a little

better. Simply speaking, an inflationary situation is where there is `too much

money chasing too few goods' . As products/services are scarce in relation to the

money available in the hands of buyers, prices of the products/services rise to

adjust for the larger quantum of money chasing them.

Let' s understand this with the help of an example. Let' s assume Rs 500 fetches you

1 gram of gold. Suppose there is a shortfall in the global supply of gold. The

obvious implication is that gold prices will rise to adjust for the sustained demandat lower supply. This may sound complicated but it' s a thumb rule of demand-

supply - high demand combined with limited supply leads to higher prices. Let' s

say gold prices rise by 10%. The revised rate of 1 gram of gold will be Rs 550.

However, in real terms (i.e. in terms of the commodity in question) the value of

the rupee would have declined from 1 gram of gold for Rs 500 to only 0.91 gram

of gold for Rs 500. So the value of the rupee has eroded. In other words, the same

quantum has money now fetches you fewer goods. Now you know why that

haircut does not cost the same as it did even 2 years ago!


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Another important implication linked to inflation is higher interest rates. When

prices in the system are in an upward spiral due to persistent demand, the central

bank of the country aims to reduce demand in the economy by raising the cost of

money.

This could be as good a time as any what with the Wholesale Price Index (WPI)

breaching the 6% level. In his exclusive interview with Personalfn, Mr. Rakesh

Mohan (Deputy Governor - Reserve Bank of India) put things in perspective by

stating that inflation was fuelled more by higher prices of commodities like steel

and petroleum at the global level than by consumer goods like food products at the

domestic level. So it may appear that the inflationary situation we see today is

more of a comment on the price spiral at the global level than the domestic level.

Nonetheless, the fact of the matter is whether you like/understand it or not, the

danger posed by inflation is real and present and as an investor you have to take

steps to safeguard your interests. You not only need to be careful about future

investments, you also need to review existing investments. In other words, you

need to bring a fresh perspective to your investments.

Risk-averse investors who traditionally shun risk and embrace the safety of

assured returns probably feel they are immune to inflation and its effects.

However, nothing could be further from the truth. If there is one class of investor

category who are completely exposed to the ` menace' of inflation it' s the risk-

averse, bond/fixed deposit investor. As a matter of fact, the security and comfort

associated with assured return schemes comes at a price - inflation! Inflation eats

into the returns offered by assured return schemes like fixed deposits and small

savings schemes, thereby leaving investors with dismal real returns.

So how does the risk-averse investor counter this menace? There are 2 options at

his disposal.


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Short term deposits and funds

Typically, in inflationary times you should not lock your money in long-term

bonds (like the RBI Bond for instance) and in fixed deposits with a longer tenure

(over 1-Yr). This is because rising inflation is generally followed by rising interest

rates as explained earlier. Banks/institutions raise their deposit/coupon rates so

investors who are already invested in these deposits/bonds witness what is known

as an ` opportunity loss' . However, fresh investors will clock a higher return on

their deposits/bonds. So when there is even a likelihood of rates on deposits/bonds

rising, choose short-term deposits. These investments will give you the required

liquidity you need while ensuring that you do not lose out in case interest rates

were to rise.

By the same logic, shun long-term debt funds. Inflation is a damper on the price of

longer maturity bonds. These bonds are the worst hit when the debt market is in

the grip of inflation frenzy. Under inflationary conditions, bond prices fall and this

pulls down the net asset values (NAVs) of bond /gsec funds. So existing investors

see erosion in their debt fund NAVs. Again the way to counter this threat is to

stick to short-term bond funds, which are relatively immune from the peril of

inflation.

Capital indexed bonds

These bonds compensate you for the rise in inflation (or the decline in the

purchasing power of the currency). As yet they do not have a presence in the

domestic debt market. The good news is that the Reserve Bank of India (in

consultation with Government of India) proposes to introduce Capital Indexed

Bonds in the country.


33/67


Key features of the proposed Capital Indexed Bonds:

Offer inflation-linked returns on both the coupon rate (interest rate offered

by the instrument) and principal repayments as well. This would be

achieved by adjusting the principal amount in tune with changing inflation

rate.

Interest payments would be computed at a fixed rate on the adjusted

principal amount. For e.g. say the bond is issued at Rs 100 on June 1, 2004

with a fixed coupon of 3.00%. Six months henceforth when the first interest

payment is due, the principal amount will be recalculated based on the

existing inflation levels. The same CIB worth Rs 100 bond could now be

worth Rs 110 on account of the rising prices, the coupon rate will be

applied to this revised sum and interest payments made accordingly.

This is pretty much what the risk-averse investor has on his plate in inflationary

times. On the other hand, the risk-taking investor has one more option to counter

inflation - equities.

Equities

It' s no secret that no asset class evokes as much excitement as stocks/equities.

However, in our view this excitement is often misplaced. Stocks stimulate

unbridled enthusiasm and fervor for the wrong reasons. Investors take to stocks

because of their ability to clock exponential growth over a shorter time frame. For

the serious, risk-taking investor stocks have a higher appeal - their ability to

effectively counter inflation and give superior real returns over the long-term vis-

-vis any other asset class. This is a fact attested to by several studies.


34/67


Busting inflation

(Growth indicates avg. growth rate over a 15-Yr time frame. Graph sourced

from HDFC Mutual Fund)

The yawning void between inflation and investment in equities is evident from the

above graph. Equally evident is the narrow gap between inflation and peer asset

classes - fixed deposits and gold.

However, stocks carry significant risk, especially if one is attempting to build

his/her own portfolio of stocks. For those who wish to minimize this risk,

diversified equity funds are an option.

In addition to the asset classes we have outlined, there are some other

unconventional, but effective, investment avenues to outpace inflation.

Commodities

The key factors that determine the price of a commodity like gold for example

(mine output for one) are different from factors that impact the value of other


35/67


investments like shares and bonds. Investing in commodities therefore helps in

diversifying the risk element in your portfolio. We do not suggest that they will

most certainly do well, but in inflationary times, investors do find them holding up

well against the sharply eroding currency value. Moreover, gold can now bedeposited with institutions like the State Bank of India. While this will earn you a

very marginal interest, it will nevertheless take care of storage costs etc. Investing

in a commodity takes care of the risk arising due to erosion in value of the

currency (since most currencies are priced in terms of US Dollars).

Property

Property is again a preferred investment avenue as in such times prices tend to rise

upwards in line with the increase in cost of construction. The only deterrent here is

that the minimum amount you need to invest here is substantial and beyond the

reach of most investors. An alternative can be real estate mutual funds, which are

quite popular in international markets. If SEBI and AMFI have their way, this

could become a reality in the Indian context.

So while inflation is a concern there is no need for you to be a sitting duck every

time it rears its head. Fortunately for you, even an under-developed financial

market like India offers you enough interesting and rewarding opportunities to

make inflation seem like just another day at the office.


36/67



37/67


Effect of Inflation:

high-low Monthly inflaton

0

1

2

3

4

5

6

7

8

9

march

April

may

junejuly

august

september

october

november

december

January

February

March

April

May

June

July

August

September

October

November

December

January

February

March

April

May

June

July

August

September

October

November

December

January

February

2002 2003 2004 2005

Month/year

inflationin%

High

Low

1)Effect of Changes in Inflation rate on BSE SENSEX Values:


From the above table,

While comparing the changes in the inflation rate with the changes in the

BSE SENSEX values, we get a correlation of 0.0626117.

r2

= 0.00392, Now r2

* 100 = 0.392% .

Therefore we can interpret that changes in inflation rate have only 0.392%

effect on the BSE SENSEX values, which is quite minute.

2) ACC Share price:



38/67


From the above table, while comparing the changes in the inflation rate

with the changes in the ACCs Share price, we get a correlation of -

0.00021.

r

2

= 0.000000044, Now r2

*

100 = 0.0000044%.Therefore we can interpret that changes in inflation rate have only

0.0000044% effect on the ACCs Share price , which is quite minute.




with the changes in the Bajaj Autos Share price get a correlation of

0.08365.

r2

= 0.00699, Now r2 * 100 = 0.699% .


effect on the Bajaj Autos Share price , which is quite minute.

4) Bharti Tele Share price:



with the changes in the Bharti Teles Share price, we get a correlation of

0.381008.

r2

= 0.1452, Now r2* 100 = 14.52% .

Therefore from the above, we can interpret those changes in inflation rate

affects the Bharti Teles Share price value by 14.52%.


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5) BHEL Share price:



with the changes in the BHEL Share price, we get a correlation of0.089626.

r2

= 0.008033, Now r2

* 100 = 0.8033% .


effect on the BHEL Share price, which is quite minute.

6) Cipla Share price:



with the changes in the Cipla Share price, we get a correlation of 0.055085.

r2

= 0.003034, Now r2

* 100 = 0.3034% .


effect on the Cipla Share price, which is quite minute.

7)Dr Reddy Share price:



with the changes in the Dr Reddys Share p rice, we get a correlation of

0.01984.

r2

= 0.000394, Now r2

* 100 = 0.0394% .


effect on the Dr Reddys Share price , which is quite minute.


40/67


8) GACL Share price:



with the changes in the GACL Share price, we get a correlation of -0.05093.

r2

= 0.0026, Now r2

* 100 = 2.6% .

Therefore from the above, we can interpret that changes in inflation rate

affects the GACL Share price value by 2.6%.




with the changes in the Grasim Share price, we get a correlation of 0.28345.

r2

= 0.08034, Now r2

* 100 = 8.034% .


affects the Grasim Share price value by 8.034%.

Negligible correlation.

10)HDFC Bank Share price:



with the changes in the HDFC Banks Share price, we get a correlation of

0.120155.

r2

= 0.0144, Now r2

* 100 = 1.44% .


effect on the HDFC Banks Share price , which is quite minute.


41/67


11) Hero Honda Motors Share price:



with the changes in the Hero Honda Motors Share price, we get acorrelation of -0.06263.

r2

= 0.00392, Now r2

* 100 = 0.392% .


effect on the Hero Honda Motors Share price, which is quite minute.

12) Hindalco Share price:



with the changes in the Hindalcos S hare price, we get a correlation of

0.203978.

r2

= 0.0416, Now r2

* 100 = 4.16%.

Therefore from the above, we can interpret that the changes in inflation rate

affects the Hindalcos Share price value by 4.16%.





with the changes in the HLLs Share price, we get a correlation of

0.064153.

r2

= 0.00412, Now r2

* 100 = 0.412% .


effect on the HLLs Share price , which is quite minute.


42/67




From the above table, while comparing the changes in the inflation ratewith the changes in the HPCL Share price, we get a correlation of

0.167722.

r2

= 0.02813, Now r2

* 100 = 2.813% .


affects the HPCL Share price value by 2.813%.

15) ICICI Bank Share price:



with the changes in the ICICI Banks Share price, we get a correlation of

0.118833.

r2

= 0.01412, Now r2

* 100 = 1.412% .


affects the ICICI Banks Share price value by 1.412%.

16) Infosys Technologies Share price:



with the changes in the Infosys Technologies Share price, we get a

correlation of -0.067.

r2

= 0.00449, Now r2

* 100 = 0.449% .


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effect on the Infosys Technologies Share price, which is quite minute.

17) ITC Share price:Correlation coefficient (r) = -0.11398


with the changes in the ITCs Share price, we get a correlation of -0.11398.

r2

= 0.01299, Now r2

* 100 = 1.299% .


affects the ICICI Banks Share price value by 1.412%. To illustrate, if

inflation increases, then the ICICI Banks Share price would decrease by

1.412%.

18) L&T Share price:



with the changes in the L&T Share price, we get a correlation of 0.189582.

r2 = 0.03594, Now r2 * 100 = 3.594% .


affects the L&T Share price value by 3.594%. To illustrate, if inflation

increases, then the L&T Share price would increase by 3.594%.

19) Maruti Udyog Share price:



with the changes in the MarutiUdyog Share price, we get a correlation of

0.048375.

r2

= 0.00234, Now r2

* 100 = 0.234% .


effect on the MarutiUdyog Share price, which is quite minute.


44/67


20)Ranbaxy Share price:


From the above table, while comparing the changes in the inflation ratewith the changes in the Ranbaxy share price, we get a correlation of

0.013216.

r2

= 0.000175, Now r2

* 100 = 0.0175% .


effect on the Ranbaxy share price, which is quite minute

21) RELShare price:



with the changes in the REL Share price, we get a correlation of -0.09502.

r2

= 0.00903, Now r2

* 100 = 0.903% .


effect on the REL Share price, which is quite minute.




with the changes in the RIL Share price, we get a correlation of 0.076568.

r2

= 0.005863, Now r2

* 100 = 0.5863% .


effect on the RIL Share price, which is quite minute.


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23) Satyam Share price:



with the changes in the Satyam Share price, we get a correlation of0.054975.

r2

= 0.003022, Now r2

* 100 = 0.3022% .


effect on the Satyam Share price, which is quite minute.




with the changes in the SBI Share price, we get a correlation of 0.175731.

r2

= 0.03088, Now r2

* 100 = 3.088% .


affects the SBI Share price value by 3.088%.





with the changes in the TATA Motors Share price, we get a correlation of -

0.0215.

r2

= 0.0004622, Now r2

* 100 = 0.04622% .

Therefore we can interpret that changes in inflation rate have only

0.04622% effect on the TATA Motors Share price, which is quite minute.

26) TATA Power Share price:


46/67




with the changes in the TATA Power Share price, we get a correlation of

0.218562.r

2= 0.04777, Now r

2* 100 = 4.777% .


affects the TATA Power Share price value by 4.777%.

27) TISCO Share price:


From the above table, While comparing the changes in the inflation rate

with the changes in the TISCO Share price, we get a correlation of -

0.03945.

r2

= 0.001556, Now r2

* 100 = 0.1556% .


effect on the TISCO Share price, which is quite minute.

28) Wipro ltd Share price:



with the changes in the Wipro Ltd Share price, we get a correlation of

0.178484.

r2

= 0.03185, Now r2

* 100 = 3.185% .


affects the Wipro Ltd Share price value by 3.185%.


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29) ONGC share price:



with the changes in the ONGC Share price, we get a correlation of0.043729.

r2

= 0.0019122, Now r2

* 100 = 0.19122% .

Therefore we can interpret that changes in inflation rate have only

0.19122% effect on the ONGC Share price, which is quite minute.




with the changes in the ZEE TeleFilm Share price, we get a correlation of -

0.0694.

r2

= 0.004816, Now r2

* 100 = 0.4816% .


effect on the ZEE TeleFilm Share price, which is quite minute.


48/67


Analysis of the influence of Re-$ exchange rate on share price:

The volume of international transactions has grown enormously over the past 50

years .Exports of goods and services by the U.S. now total more than 10% of the

GDP.Currencies must be bought and sold because the U.S.dollar is not acceptable

means of payment in many other countries. The trading of currencies takes place

in foreign exchange market whose primary function is to facilitate international

trade and investment

Graph showing movement of Re-$ Exchange rate:

rupee high-low in last 36 months

40

41

42

43

44

45

46

47

48

49

50

MAM J JA SONDJ FMAM

J JA SONDJ FMAM J JA SON DJ F

2003 2004 2005

month/year

re

/$ high

low

The above graph shows the movement of Re-$ from March 2002 to

February 2005. Re has strengthened from 49.06 in March 2002 to 43.4 in February

2005.


49/67


Re-$ Exchange Rate:

1) Effect of Changes in Re-$ Exchange Rate on BSE SENSEX Values:

Correlation coefficient (r) = 0.001581From the above table, While comparing the changes in the Re-$ exchange

rate with the changes in the BSE SENSEX values, we get a correlation of

0.001581.

r2 = 0.0000025, Now r2 * 100 = 0.00025 % .

Therefore we can interpret that the change in Re-$ exchange rate have only

0.00025 % effect on the BSE SENSEX values, which is quite minute.

2) ACCShare price:


From the above table, While comparing the changes in the Re-$ exchange


0.319779.

r2 = 0.10226, Now r2 * 100 = 10.226 % .

Therefore from the above, we can interpret that the changes in Re-$

exchange rate affects the ACC share price value negligibly.




rate with the changes Bajaj Autos Share price , we get a correlation of -

0.42681.

r2 = 0.1822, Now r2 * 100 = 18.22 % .


4) Bharti Tele Share Price:


50/67




rate with the changes in the BSE SENSEX values, we get a correlation of -

0.13832.r2 = 0.01913, Now r2 * 100 = 1.913 % .

Therefore from the above, we can interpret those changes in Re-$ exchange

rate affects the Bharti Teles share price value by 1.913%.


5)BHEL Share price:


rate with the changes in the BHEL Share price, we get a correlation of

0.26874.

r2 =0.0722, Now r2 * 100 =7.22 % .


rate affects the BHEL share price value by 7.22 %. To illustrate, if the Re

strengthens against the dollar, then the BHEL share price would increase by

7.22%

6) Cipla Share price:




0.025112.

r2 = 0.000631, Now r2 * 100 = 0.0631% .

Therefore we can interpret those changes in Re-$ exchange rate has only

0.0631% effects on the Cipla Share price, which is quite minute.


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7) Dr. Reddy Share price:Correlation coefficient (r) = 0.126081



0.126081.

r2 = 0.0159, Now r2 * 100 = 1.59% .

Therefore from the above, we can interpret those changes in Re-$

exchange rate affects the Dr Reddys share price value by 1.59%.




rate with the changes in the Grasim Share price, we get a correlation of

0.103485.

r2 = 0.1071, Now r2 * 100 = 10.71 % .


rate affects the Grasims share price value by 10.71 %.

9)HDFC Ltd Share price:



rate with the changes in the HDFC Ltd Share price, we get a correlation of -

0.20533.

r2 = 0.0422, Now r2 * 100 = 4.22 % .


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rate affects the HDFC Ltd Share price value by 4.22 %. To illustrate, if the

Re strengthens against the dollar, then the HDFC Ltd Share price would

decrease by 4.22 %.

10) Hero Honda Motor Share price:


From the above table, While comparing the changes in the Re-$ exchangerate with the changes in the Hero Honda Motors share price, we get a


r2 = 0.0199, Now r2 * 100 = 1.99 % .

Therefore from the above, we can interpret that changes in Re-$ exchange

rate affects the Hero Honda Motors share price value by 1.99.

11) Hindalco Share price:



rate with the changes in the Hindalcos share price, we get a correlation of -

0.02895.

r2 = 0.00084, Now r2 * 100 = 0.084 % .

Therefore we can interpret those changes in Re-$ exchange rate has only

0.084 % effect on the Hindalcos share price, which is quite minute.




53/67



rate with the changes in the HLLs Share price, we get a correlation of

0.017593.

r

2

= 0.00031, Now r

2

* 100 = 0.031 % .Therefore we can interpret those changes in Re-$ exchange rate has only

0.031 % effect on the HLLs Share price , which is quite minute.




rate with the changes in the HPCL Share price, we get a correlation of

0.247765.

r2 = 0.06139 Now r2 * 100 = 6.139 % .


rate affects the HPCL Share price value by 6.139 % .To illustrate, if the Re

strengthens against the dollar, then the HPCL Share price would increase

by 6.139 %

14) ICICI Bank Share price:



rate with the changes in the ICICI Bank Share price, we get a correlation of

-0.0712.

r2 = 0.0051, Now r2 * 100 = 0.51 % .

Therefore we can interpret those changes in Re-$ exchange rates have only

0.51 % effect on the ICICI Bank Share price, which is quite minute.


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15)Infosys Technologies Share price:


From the above table, While comparing the changes in the Re-$ exchangerate with the changes in the Infosys Technologies share price, we get a


r2 = 0.06874, Now r2 * 100 = 6.874% .


rate affects the Infosys Technologies share price value by 6.874%.To

illustrate, if the Re strengthens against the dollar, then the Infosys

Technologies share price would decrease by 6.874%

16) ITC Share price:



rate with the changes in the ITCs Share price, we get a correlation of

0.031124.

r2 = 0.00097, Now r2 * 100 = 0.097% .

Therefore we can interpret that changes in Re-$ exchange rate have only

0.097% effect on the ITCs Share price, which is quite minute.

17) L&T Share price:



rate with the changes in the L&T Share price, we get a correlation of

0.375067.

r2 =0.14068, Now r2 * 100 = 14.068% .

Therefore from the above, we can interpret that changes in Re-$

exchange rate affects the L&T Share price value by 14.068%. To illustrate,


55/67


if the Re strengthens against the dollar, then the L&T Share price would

increase by 14.068%

18)Maruti Udyog Share price:



rate with the changes in the MarutiUdyog Share price, we get a correlation

of 0.029608.

r2 = 0.00088, Now r2 * 100 = 0.088% .


0.088% effect on the MarutiUdyog Share price, which is quite minute.

19) ONGC Share price:



rate with the changes in the ONGC Share price, we get a correlation of

0.511726.

r2 = 0.26186, Now r2 * 100 = 26.186 % .


rate affects the ONGC Share price value by 26.186 %.

20) Ranbaxy Share price:

Correlation coefficient (r) = -0.06164From the above table, While comparing the changes in the Re-$ exchange

rate with the changes in the Ranbaxy Share price, we get a correlation of -

0.06164.

r2 = 0.0038, Now r2 * 100 = 0.38% .


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Therefore we can interpret those changes in Re-$ exchange rate have only

0.38% effect on the Ranbaxy Share price, which is quite minute.

21) REL Share price:Correlation coefficient (r) = -0.36477

From the above table, while comparing the changes in the Re-$ exchange

rate with the changes in the REL Share price, we get a correlation of -

0.36477.

r2 = 0.1331, Now r2 * 100 = 13.31 % .


rate affects the REL Share price value by 13.31 %.




rate with the changes in the RIL Share price, we get a correlation of

0.186572.

r2 = 0.0235, Now r2 * 100 = 2.35% .


rate affects the RIL Share price value by 2.35%.

23) Satyam Share price:



rate with the changes in the Satyam Share price, we get a correlation of -

0.18013.

r2 = 0.03245, Now r2 * 100 = 3.245% .


rate affects the Satyams Share price value by 3.245%.


57/67




From the above table, While comparing the changes in the Re-$ exchangerate with the changes in the SBI Share price, we get a correlation of -

0.01073.

r2 = 0.000115, Now r2 * 100 = 0.0115 % .


0.0115% effect on the SBI Share price, which is quite minute.




rate with the changes in the TATA Motors Share price, we get a correlation

of 0.112718.

r2 =0.01271, Now r2 * 100 = 1.271% .


rate affects the TATA Motors Share price value by 1.271%.

26) TATA Power Share price:




0.535483.

r2

= 0.28674, Now r2

* 100 = 28.674% .


rate affects the TATA Power Share price value by 28.674%.


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27) TISCO Share Price:


rate with the changes in the TISCO Share price, we get a correlation of

0.296115.

r2 = 0.08768, Now r2 * 100 = 8.768 % .


rate affects the TISCO Share price value by 8.768 %. To illustrate, if the Re

strengthens against the dollar, then the TISCO Share price would increaseby 8.768 %.

28) Wipro Share price:



rate with the changes in the Wipro Share price, we get a correlation of -

0.07215.

r2 = 0.00521, Now r2 * 100 = 0.521% .


0.521% effect on the Wipro share price, which is quite minute.




59/67



rate with the changes in the ZEE TeleFilm Share price, we get a correlation

of -0.3436.

r

2

= 0.1181, Now r

2

* 100 = 11.81% .Therefore from the above, we can interpret that changes in Re-$ exchange

rate affects the ZEE TeleFilm Share price value by 11.81%. To illustrate, if

the Re strengthens against the dollar, then the ZEE TeleFilm Share price

would decrease by 11.81%.


60/67


Hypothesis Testing

1) Financial Institutional Investors

Predictors: (Constant), % change

T-Test Co- efficients

UnstandardizedCoefficients

StandardizedCoefficients t

significance

Model B Std.error Beta

1 (Constant) 7.099 1.218 5.829 .108

% change 4.449E-02 .009 .980 4.924 .128

a Dependent Variable: % change

Result: t- is significant in case of FII. They affect the share prices positively.

2) Inflation



UnstandardizedCoefficients

StandardizedCoefficients t

significance


1 (Constant) -9.910E-02 .744 -.133 .895

% change 3.843E-02 .131 .063 .294 .771

a Dependent Variable: % change

Model R R squareAdjusted Rsquare

Standard errorof estimate

1 .980 .960 .921 2.09910336



1 .063 .004 -.041 3.62882


61/67


3) Exchangerate



Unstandardized

Coefficients

Standardized

Coefficients t

significance


1 (Constant) -0343 .213 -1.608 .122

% change 2.735E-03 .369 .002 .007 .994

Results: In the above two cases they are insignificant and have negligible

influence on share prices



1 .002 .000 -.045 1.03620


62/67


FINDINGS:

1) Effect of changes of Rupee-$ exchange rate on BSE SENSEX value is very

minute. So we can say that Rupee-$ Exchange rate hardly effects SENSEX.

It is interesting that few scrips of SENSEX like ACC, BAJAJ, GRASIM,

INFOSYS, L&T, ONGC, REL, TATA Power, and ZEE Tele Films are affected

positively or negatively more than 10% of Correlation of Determination (R2).

Affect on other Scrips is Negligible. Even Hypothesis calculated in this purposeexplains that rupee -$ exchange rates dont affect BSE SENSEX

2) Effect of changes of Inflation rate on BSE SENSEX value is very minute. So

we can say that Inflation rate hardly affects SENSEX.

It is interesting that only scrip of SENSEX that is BHARATI TELE is

affected more than 10% of Correlation of Determination (R2). Affect on other

Scrips is Negligible.

3) Effect of changes of FII Flow in share market and its influence on BSE

SENSEX value is very affective. Its affects on almost all scrips of SENSEX are

very high.

4)The internal domestic economy is stable and consistent.

5) Incase of foreign exchange markets, they are relatively consistent and do not

make much impact on Indian stock market.


63/67


6) Since the rupee is relatively cheaper there is no organic link between India

stock market and stock market elsewhere.


64/67


Based on the analysis and interpretations we can conclude that:

The present study examines the causal relationship between Net FII investments,

inflation and foreign exchange and the Indian stock market represented by marketcapitalization of BSE. During the past three years there have been several ups and

downs in the Indian stock market and Foreign portfolio investment patterns,

consequent upon several changes affecting the Indian economy, like the

technology slowdown, Ketan Parekh scam, September 11 attack on WTC, to name

a few. There have been attempts to find the determinants and impacts of FII

investment in India. By using monthly data from Feb 2002 to Feb 2005, we tried

to capture the cause effect nature of FII, inflation and foreign exchange and Stock

market. There is evidence of causality from BSE market capitalization and NSE

market capitalization to net FII investment. The study infers that when market

capitalization (the product of total trading volumes and prices of shares) is high,

FIIs are more attracted for investing' (they buy heavily). The reverse happens (FIIs

sell heavily) when market capitalization is low. While there is causation from

current month, two month and three month lag market capitalization of both BSE

and NSE, no causation was found from the one month lag values to net FII

investment. We have also found significant impact of net investment on marketcapitalization or Indian stock exchanges. When FII s are net buyers, prices and

trading volume both go up thereby increasing the market capitalization. On the

other hand heavy selling by FIIs brings down the market capitalization by reduced

trading volume and/or share prices. However, it is found that the current month' s

FII investment pattern has a significant impact on the current month' s NSE and

BSE market capitalization but past investment by FIIs does not have any

significant impact. The study found causation from FII net inflow to market

capitalization of BSE as well as from BSE to FII net inflows as was found by

Chakrabarti (2001) and Kumar(200l) using different methodology.


65/67


Based on the Findings we can recommend that

1) It is recommend that since the FII have a considerable positive affect on share

prices the government should encourage their investment which in turn boosts the

economy.

2) Rupee-$ Exchange rate and Inflation Rate dont affect share prices. So this

factors need not to be considers while making any investment in shares.

3) FII affects the share market the most. So close examination of the FII

investments should be tracked while making investments.

4) If FII starts selling shares it is better to exit and vice versa, more investment

into the market can be entertained.


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BIBLIOGRAPHY

1) ICFAI journal of Applied Finance

Articles-

a) Macroeconomic Indicators and Stock Prices - Indian Evidence-Golaka C Nath and Dr. Y V Reddy

b) FII Inflows to India: Their Effect on Stock Market Liquidity and

Volatility

- Manisha Joshi and Chiranjit Mukhopadhyay

c) Stock market reaction of announcement of policy changes.

-Munmum Mohanthy

d) Causal Relationship between Foreign Institutional Investment and Indian

Stock Market

- SubarnaDey and BishnupriyaMishra

e) Key determinants of stock prices in India.

-Subir Sen and Rajkumar Ray

f) Security analysis and portfolio management (Module I to X)

- IGNOU

Websites

www.moneycontrol.com

www.bseindia.com

www.nseindia.com

www.indiainfoline.com

www.karvy.com www.domain-b.com

www.investopedia.com

National dailies

Business Lines


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Documents

Praveen-03123-Volatility of Share Price