Does Bilateral Market and Financial Integration Explains International Co-Movement Patterns 1

Mobeen Ur Rehman and Syed Muhammad Amir Shah
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Mobeen Ur Rehman: Shaheed Zulfikar Ali Bhutto Institute of Science and Technology, Islamabad 44000, Pakistan
Syed Muhammad Amir Shah: Commerce Department, Allama Iqbal Open University, Islamabad 44000, Pakistan

IJFS, 2016, vol. 4, issue 2, 1-13

Abstract: This study aims to explore the relationship between market integration, foreign portfolio equity holding and inflation rates on international stock market linkages between Pakistan and India. To measure stock equity interlinkage, we constructed international co-movement index through rolling beta estimation. Market integration variable between these two countries is constructed using the International Capital Asset Pricing Model (ICAPM). To check the impact of market integration, foreign portfolio equity holding and inflation rate on Pakistan-Indian stock market co-movement, we applied autoregressive distributed lag (ARDL) estimation. ARDL estimation is applied due to different stationarity levels of the included variables. The level of convergence speed is measured by the introduction of error correction term (ECT) followed by variance decomposition analysis. Results of the study indicated presence of long term relationship among the included variables along with significance variance in bilateral co-movement due to inflation rate differential. The significance of inflation rate differences between these two countries are in accordance with portfolio balance theory stating that investors possess information about the macroeconomic variables thereby readjusting their portfolios for effective diversification.

Keywords: return co-movements; ARDL; variance decomposition analysis; portfolio diversification (search for similar items in EconPapers)
JEL-codes: F2 F3 F41 F42 G1 G2 G3 (search for similar items in EconPapers)
Date: 2016
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