Dynamic linkage between foreign equity flows and stock market returns at the Nairobi securities exchange

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Gachanja, Samuel Njuguna
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Kenyatta University
This study investigated the dynamic linkage between foreign equity flows and equity returns at the Nairobi Securities Exchange (NSE) since foreign equity flows are expected to induce a surge in domestic stock prices and consequently a fall in price when foreign equity investors exit the domestic stock market. An increase in the stock prices attracts foreign investors in to the domestic stock market. The main objective of this study was to understand how stock prices in Kenya influence foreign equity flows, and in turn how foreign equity flows affect stock prices. To understand the dynamic linkages between foreign equity flows and stock market returns, the study utilized vector autoregressive models, causality tests, vector decomposition and impulse response functions together with data from the Capital Markets Quarterly statistical bulletins for during and after 2007/2008 financial crisis (January 2007 to December 2015). Monetary variables used included NSE 20 share index which represents stock market returns, net foreign equity flows, foreign equity outflows and inflows. The study established that foreign equity flows has a positive and significant effect on stock markets returns. Also, foreign equity flows granger causes stock market returns at Nairobi Securities Exchange which is consistent with price pressure hypothesis. Hence, there is need for the government agencies to implement relevant policies that can attract equity inflows in Kenya.
A research project submitted to the department of economic theory in the school of economics in partial fulfillment of the requirements for the award of the masters of economics (policy and management) .July, 2018