EXPLORING THE DYNAMIC RELATIONSHIP BETWEEN STOCK PRICES AND EXCHANGE RATE –  EYGPTIAN EXPERIENCE

EXPLORINGTHE DYNAMIC RELATIONSHIP BETWEEN STOCK PRICES AND EXCHANGE RATE –  EYGPTIAN EXPERIENCE Dr.Justin Nelson MichaelProfessor of Management StudiesKristu Jayanti College (Autonomous),Bengaluru Abstract The economy of a nationis driven by a robust securities market. The growth of a nation is indubitablybased on the strength and stability of its secondary market systems andintermediaries.

The mobilization of funds and its flow into diverse sectors ofthe economy in a regulated manner signifies dynamism and progress. Egypt as aneconomy has been in a trajectory of progress right since the establishment ofits Secondary Market and its Index EGX 30 in 2009. The Egyptian Pound (EGP) hasbeen at the centre of attention of Egyptian monetary policy due to undue stresson it for quite some time. The Central Bank of Egypt (CBE) has been in theforefront to stabilize the Pound from time to time. An intrigue that isplaguing all researchers in the field of Foreign Exchange Management, is thequery about the relationship between Secondary Market and Forex Market. Or isthere any significant relation between Stock Prices and Exchange Rates.

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Therecent transition in Egyptian Economy to float its currency and its efforts tostabilize the Pound has attracted researchers to find out the effects of such amove. The worry about the consideration securities market and its impact onforex market has to be given a serious thought before any decision in the forexmarket. Hence this study focuss on the problem of relationship between stockmarket and exchange rate and applies Engle-Granger cointegratiom method to testthe same by taking Egypt’s case. Keywords: EgyptianEconomy; Exchange Rate: Stock Prices; Cointegration; Econometrics          1.    IntroductionEygptian Economy standstall in the African Continent.

However the Exchange rate instability in thelast year is a matter of Economic concern. The economy went in through adynamic change in its policies and processes. There were sudden changes anddecision that took the eygptians through a vortex of change.The role of CapitalMarket in the development of a nation cannot undermined. Exchange ratemovements also have a significan role in determining the direction of growth ofany country. There two significant variables have been at the forefront ofeconomic observation by researchers in all countries. Thisdynamic relationship has been utilized by policy makers, corporate think-tanksto predict future trends as they are considered to be predicatory tools.Some recentstudies have found that there is no long-run cointegration between the twovariables (Bahmani – Oskooe & Sohrabian, 1992; Neih & Lee, 2001; Ramasamy& Yeung, 2005)The recent Exchange Ratecrisis in a few nations, have reiterated that the relationship between stockprices and exchange rates is a matter of contention even today.

Empiricalinvestigation into their relatiohsip might lead to meaningful discoveries. Thispaper seeks to study the dynamic relationship between stock prices and exchangerate in Egypt. The context of the study is the instability of the EgyptianPound (EGP). Egyptian Stock Index (EGX) has seen its own share of ups anddowns.

Firstly unit root tests were employed to test stationarity of the givenseries. Secondly Cointegration was tested using and Engle – Granger’s (1987)two – step methodology. This paper rejects mostof the studies, and suggests that there is a significant cointegration betweenstock prices and exchange rates in Egypt. Thus, there is a long-runrelationship between stock market and forex market in Eygpt.

2.     Literature ReviewAcademic research hasbeen intrigued by the relation between exchange rates and stock prices. This interestspiked every since the nations have moved towards flexible exchange ratesystem. Lin (2000), …… havestudied the causal relationship between stock prices and exchange rates. Some empirical researchconcluded the lack of long-run relationship between the two variables. ( Nieh& Lee, 2001; Rahman & Uddin, 2000; ….

.)Few researches haveindicated a relation between exchange rates and stock prices (Bahmani – Oskooe &Sohrabian, 1992). They had found a bi-directional causality, even though therewas no long-run relation using Granger Concept of Causality, Akaike’s finalprediction error conjecture and Chow Test. Ramasamy and Yeung (2005) found that“the direction of causality tends to demonstrate a hit and run behavior andswitches according to the period chosen.” (p.162), while studying exchangerates and stock markets in nine east Asian countries.

Empirical evidence forrelationship among macro-fundamentals and exchange rates are found in…..Since majority of thestudies have proved no long-run relationship between the two variables, thisstudy explores the dynamic relationship between stock prices and exchange ratein Eygpt.

3.     Data and MethodsStock prices datacomprise of EGX 30 and Exchange rate data comprises of USD/EGP. The data havebeen collected from www.

investing.com.The period of data collection is from 1992 January to 2017 December. The year1992 was chosen since EGX 30 was started that year. All analysis was carriedout using GRETL software.3.1.Unit Root TestThe Unit Root Test ofDickey and Fuller (1981) has been employed.

It is used to ensure that the dataof a time series variable is non-stationary using an auto-regressive model.This test has been deployed to ensure that data is stationary and ensuring thatall variables are I (1) as variables that are I (0) indicate and automaticlong-run equilibrium correlation. The Augmented DickeyFuller (ADF) Unit Root Test consists of estimating the following regression: ?Yt= ?1 + ?2t + ? Yt-1 + ?i  t-1 +?tThe null of non-stationarity hypothesis is statedthus:H0: A unit root ‘or’ non-stationarity ‘or’? = 0H1: No unit root ‘or’ stationarity ‘or’ ?< 0, since ? = ? – 1The unit root tests were carried out on the stockindex (EGX) and exchange rate (EGP). Then the series were tested for unit rootsat the level series. First difference of level series were obtained using the followingequation: X = X – X (1)3.2.

Engle – Granger Two-step Cointegration TestEngle-Granger Cointegration Technique has been usedto estimate the long-run equilibrium.ReferencesDickey, D.A.& Fuller, W.

A. (1981). Likelihood ratio statistics for autoregressive timeseries with a unit root. Econometrica,49(4), 1057-1073. Engle, R. & Granger, C. (1987).

Co-integration and errorcorrection representation, estimation and testing. Econometrica, 55 , 251-267.Bahmani-Oskooe,M. & Sohrabian, A. (1992). Stock prices and the effective exchange rate ofthe dollar.

Applied Economics, 24(4),459-465.Nieh, C. &Lee, C. (2001).Ramasamy, B.& Yeung, M.

C.H. (2005).