Stock Market Capitalization and Interest Rates: A Study of India and China

Review of literature:
Emerging stock markets have been identified as being at least partially segmented from global capital markets. capital market is one in which security prices adjust rapidly to the arrival of new information and, therefore, the current prices of securities reflect all information about the security.. As a consequence, it has been argued that local risk factors rather than world risk factors are the primary source of equity return variation in these market. Accordingly Atje, Raymond, and Boyan Jovanovic (2006) explored the macroeconomic environment of Sub-Saharan Africa and analyzed how macroeconomic variables affect stock market capitalization by using co-integration analysis. The assumption underlying the use of market capitalization as an indicator of stock market development is that the size of the stock market is positively correlated with the ability to mobilize capital and diversify risk more further the similar thing conclude by Janak, Raj, Sarat, Dhal. (2006). Claessens, Klingebiel, Schmukler (2001) investigated that FDI is positively correlated with stock market capitalization and value traded. In other words, FDI is a complement and not a substitute of domestic stock market development. Furthermore, FDI is positively correlated with the degree to which capital raising, listing, and trading has been migrating to international financial centers by taking sample of 77 countries. Similar study was done and one more factor was analysed from the studies of Adam Anokye M., Tweneboah George (2009) studied the impact of Foreign Direct Investment (FDI) on the stock market development in Ghana using multivariate cointegration and error correction model. Their results indicated that there existed a long-run relationship between FDI, nominal exchange rate and stock market development in Ghana and also found that a shock to FDI significantly influence the development of stock market India and China. Alternatively studies like of core , Alam, Md. Mahmudul., Uddin, Md. Gazi Salah. (2009) studied the market efficiency and also showed empirical relationship between stock index and interest rate through both time series and panel regressions. For all of the countries it was found that interest rate has significant negative relationship with share price and for six countries it was found that changes of interest rate has significant negative relationship with changes of share price. Another aspect was intended regarding needs and analysed by Chaum Aaron, Price Bryan examined the impact of dividends on future stock prices, supporting the dividend irrelevance theorem of Miller and Modigliani (1961), which implies that dividends have no overall effect on stock returns because price appreciation has a compensating effect on the dividend distribution. They showed there is insignificant relationship between dividend policy and total returns on a risk-adjusted basis.In the similar illumination Konstantinos Drakos (2009) had tested the interest rate sensitivity of stock returns, allowing for time-varying conditional volatility. Then 'pooling' information across stocks, a system-theoretic approach is employed where explicitly interdependence of stocks was exploited. The findings from both methods were consistent providing evidence for significant sensitivity of bank stock returns to interest rate movements. Working capital was found as the variable that may account for the cross-sectional variation of the interest-rate sensitivities providing evidence for the nominal contracting hypothesis.

Stock Market Capitalization and Interest Rates: A Study of India and China