The Effect Of Exchange Rate Risk On Stock Market Returns At The Namibia Stock Exchange

ABSTRACT

Studies on the effect of exchange rate risk on stock market returns have received prominent attention in literature. This is due to the important role that stock markets play in the mobilization of capital that has the potential to create economic and social development. The researcher used an experimental research design to evaluate the magnitude and statistical significance of the effects of exchange rate risk on stock market returns on the Namibian Stock Exchange (NSX). Secondary data in the form of monthly time series for the period 2010-2018 was sourced from the Central Bank of Namibia (BoN), Namibia Statistics Agency (NSA) and the Namibia Stock Exchange (NSX). An Error Correction Model (ECM) framework was used in the parameter estimation after extracting exchange rate risk. Thereafter, granger causality was employed to examine the direction of causality between exchange rate and stock market returns. Several interesting results were obtained. Firstly, empirical results indicate that, in the long-run, exchange rate risk (-0.61), CPI (1.69), and prime rate (-1.35) are significant variables while GDP growth is an insignificant variable on NSX stock returns. Furthermore, an increase in exchange rate risk and prime rate negatively affect the NSX stock returns while it is positively affected by increases in CPI. Secondly, there exists a significant long-run relationship between exchange rate risk and NSX stock market returns with no significant short-run relationship. Lastly, the direction of causality runs from stock prices to exchange rate risk which is consistent with the portfolio adjustment theory. Based on these findings, the study recommends for the Government of Namibia to put in place policies that promote stable exchange rates thereby reduce the exchange rate risk and ultimately enhance stock market returns.