MISPRICING AND RISK TAKING IN THE INDONESIAN STOCK MARKET

Zaafri A. Husodo, M. Budi Prasetyo, Rizky Luxianto, Theresia Silitonga, Januar Hafidz, M. Harris Muhajir and Inna Firindra

No WP/28/2018, Working Papers from Bank Indonesia

Abstract: This study aims to study macro-finance empirical connections within the framework of financial system stability (SSK) in Indonesia through market-based variables namely mispricing on the stock market, distress risk (PoD) of public companies and financial friction. This study uses alpha from the Fama-French 3-Factor Model through a rolling regression estimation to measure the period of mispricing. Distress-risk is measured using the Merton (1974) structural model according to the framework of Campbell, Hilscher and Szilagyi (2008). Meanwhile, financial friction is measured based on the difference between Return on Invested Capital (ROIC) and risk-free interest rates (Hall, 2013). The results of the market-based variables estimation have a significant relationship with the SSK indicator i.e the Financial System Stability Index (ISSK), credit growth and the Credit to GDP gap. In combination, mispricing, PoD and friction show information contributions above 50% of the SKK indicator. These findings indicate an empirical macro-finance connection. The results of robustness check show that distress risk as measured by probability of default firms provides additional information contribution of 18% to 41% on the SSK indicators and credit indicators. This is empirical evidence that shows one macro-finance connection path can be explained through distress risk of public companies.

Keywords: macro-prudential; macro-finance; asset mispricing; Fama-French 3-Factor Model; Friction; Indonesian economy (search for similar items in EconPapers)
JEL-codes: D5 E31 E32 G12 G14 G18 (search for similar items in EconPapers)
Pages: 31 pages
Date: 2018
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