Political News and Stock Returns: A Case of Pakistan

ABSTRACT

We analyze the influence of political news on the stock market returns for Pakistan. The data are daily and covers 5th June 2013 to 30 March 2018. Political news is viewed as procurators political instability which in turn predict market fluctuations. Consistent with our expectations, by employing MGARCH analysis, we find that political news has a distinct effect on stock returns and have a significant negative effect on the stock returns.

Keywords: Political New, Market Fluctuations, Stock Returns

INTRODUCTION

If the stock market reacts instantaneously to the public information and without bias, the market should be classified as semi-strong of efficiency (Malkiel & Fama, 1970). It means stock market respond all the available public information. Therefore, any significant new public information should be reflected in the share prices without any time lag.

With the assumption of the semi-strong form of market efficiency, if prices reflect all currently available information, then price changes must reflect new information. Therefore, one should be able to measure the role of an event of interest by observing price fluctuations during the event occurred period a strand of literature shown numerous factors that can influence the stock returns like economic and political factors. Political stability plays a vital role in the nation building, and it is an important process for the development of the nation. Majority of the developing countries are facing the issue of political instability. A new government came into existence into power overnight, either through a coup or army takeover. The Pakistan political situation is a good example in this regard. The new government governs the country their ways and introduces rules for the business which resulted from frustration and uncertainty among the business community.

Political instability becomes a challenge and a serious problem, especially for developing countries. It causes enormous difficulties and undue delays in the development of the country. Political stability is a way to keep the society united and maintaining the legitimacy within the state. It is an essential ingredient for the economic development, the supremacy of law in a state. The development of the country is incomplete without firm and organized the political system. Political instability can be defined in more than one way, firstly propensity for the regime, secondly political disorder and finally economic growth affected by instability. Pakistan has been ranked among highly unstable countries around the globe. Lack of mature leadership, conflicts between the key organs of state and distrust among politicians, are the major causes of Pakistan political instability.

The political instability has a direct influence on the economic development of the county.  It affects the economic growth in different ways as in politically unstable countries such as foreign investors do not invest in countries. Foreign investors lack interest in unstable countries by giving access to the product markets disturb the economic development of the country. Therefore, countries heavily dependent on the foreign aid. Further more the improper use of foreign aid like spending on disasters hurt the donor’s trust.

Apart from foreign investment, political instability also limits internal investment as well. Investors hesitate to invest in their own countries due to the fear of nationalizations, trade unions, and government’s attitudes. The deprived of investment funds of developing countries destroy the economic development. The current study focused on the political instability and returned vitality for the case of Pakistan. The study considers all types of political news either given by the ruling government, opposition and all information come from the judiciary department of the country. In the past judiciary remained very active to take measures against the politicians and have a strong influence on the political scenario of the country. The following section sheds light on the literature review on the subject. Next section explains the data and methodology followed by the results and discussion. The last section concludes the study.

LITERATURE REVIEW

Previous studies indicate that the stock market returns and stock market volatility have a significant relationship with macro-economic factors. Stock market influenced by the political factors equally (Beaulieu, cosset & Essaddom, 2006). According to Mahmood,Irfan, Iqbal, Kamran, and Ijaz (2014) political events have a significant impact on stock market volatility in Pakistan. By using the data from 1998-2013, to identify the impact of political events on KSE-100 indexes (30 days before & 60 days after the event).

Media has a role in changing the direction of stock price due to redundant news (Tetlock, 2011). Good news has significant and positive effects on returns of the stock market, but it reduces volatility, whereas, bad news has a significant but negative impact on stock market returns and it increases stock volatility (Suleman, 2012). According to Birz (2017), S&P 500 Returns of next week has a significant relationship with stale news. They collected dataset from LexisNexis sampling period from January 1991 to May 2004, taking 12,620 headlines from 389 newswires and Newspapers.

Studies in developing countries showed significant relations between stock market and political events. Bad and good news increase volatility but not all indices are affected by the political news on Tunisian stock exchange, they used a non-parametric asymmetric model (GARCH Extension), data range from 1st December, 2010 to 31st August 2016 (Zaiane, 2018). According to Nguthi (2013) the elections dates in Kenya have significant relationships with stock volatility in short term, the stock price sharply rise during March, 2013 elections 120 days (60 days before & 60 days after elections), data of 62 listed companies on Nairobi Securities Exchange (NSE). The daily newspaper data of political announcements and daily share price of NEPSE Index in Nepal shows that political announcements either positive or negative always produced abnormal returns (Dangol, 2008).

Political uncertainty has significant effects on the return and risk of almost every sector, but intensity varies. Construction, beverages, and food sectors have the least effects, while banks, other financial services, and chemicals have pronounced effects of uncertainty in politics. In this research, the univariate VAR-EGARCH model was employed, using data from EGX database attained daily observations yielding 1537 from January 4th, 2009 to May 31st, 2015 (Ahmed, 2017).  Foreign investors avoid politically unstable markets; whenever political instability increases it reduces foreign investment, which causes fluctuations and volatility (Chan & Wei 1996). Liston, Chong and Bayram (2014) Study suggested that political variables have a significant effect on stock returns and investors sentiments that what investors think about the market?

In the stock market, Political risk develops a foundation of adverse returns (Simon, 1982). The strong effect of political events on trading volume and returns has been estimated on financial markets (Aktas & Oncu, 2006; Beaulieu, Cosset &  Essaddam, 2006). Many other researchers have analyzed the both (Positive and Negative) effects on the volatility of investments due to political risk (Feils, 2000; Haendel, ; Kobrin, 1979, West &  Meadow, 1975). Perotti and  Oijen (2001) analysis showed that the privatization is an effective source for the growth of stock market returns in the determination of political risk in emerging economies.

Masood and Sergi (2008) studied political risks, and other events of Pakistan affected stock market since 1947 through questionnaire from historians, politicians, economists, and stock market analysts, by using Markov Chain Monte Carlo and Bayesian Hierarchical Model techniques. This study also found Political risk of Pakistan creates market risk premium from 7.5% up to 12%. They predicted that the dimensions of political risk must to stay unchanged for a long time to come.

The relationship between Political instability and the stock market is not direct, but it is considered a key factor. Maqbool, Hameed and Habib (2018) studied that the stock markets have been affected by political events and decisions. Their results are helpful for the stakeholders and investors to invest in stock markets if they do not have efficient information of political effect on stock returns in Pakistan even all over the world.

Hassan, Maroney, El-Sady and Telfah (2003) examined 10 stock markets of the Middle East and Arica from 1984-1999, which found that economic, financial and political country risks determined significantly market predictability and volatility. Stock market Volatility and its predictability are key factors to evaluate the decision of country risk for direct investment in global portfolio diversification.

Aisen and Veiga (2013) studies the effects on economic growth due to political instability. They collected data from 169 countries taking period 1960-2004, they locate that higher degrees of political instability is related to inferior growth rates of per capita GDP. Lastly, democracy might have a small negative impact, whereas, ethnic homogeneity and economic freedom were useful for development.

Asterios and Siriopoulos (2000) examined the relationship between political instability and stock returns of Greece. By using the data from 1960-95, they employed factor analysis and conclude that there is a significant negative relation between stock returns and political instability furthermore, they identified that there is a negative association between economic growth and political instability.

Nebojsa, Orlov and Piljak (2015) Studied 64 countries over 1990 to 2013 by dividing each into emerging, developed and frontier categories. In these three markets, components of political risk are estimated. According to their results about all three categories, political risk has significant effects on stock returns. In each market category, individual market components have different effects.

The study of Borensztein, Gregorio and Lee (1998) examined the impact of foreign direct investment (FDI) in cross-country and their results suggested that FDI plays a significant role in the economic growth of any country. By using data (two decades) of 69 developing countries, where FDI flows from industrial countries, their results showed FDI is an important tool of technological transfer. Study on KSE 100 index showed results on the political news of leading newspapers and the political events have significant but short time effects on stock returns. Information of newspapers was collected from international sources and leading newspaper from 1998-2014, and stock returns data was collected from Yahoo Finance. Both favorable and unfavorable political events have a significant impact, but it lasts for 5 days.

Chan and Wei (1996) considered the effect of political news on the stock market of Hong Kong. They found that the effect of political news relied upon whether the list comprised of stock controlled by Hong Kong or by the Chinese state-owned enterprises, where China related stocks were considered as a sheltered paradise. Therefore, the index arrangement may assume a job in affectability to political news.

Mitchell and Mulherin (1994) discovered that the stream of public information, estimated as the everyday number of headlines discharged by Dow Jones, is just feebly related with the unpredictability of a few US records.  Focusing on the similar stock market, Kim and Mei (2001) utilized an instability channel with the end goal to quantify the effect of political declarations on returns and volatilities. They found that substantial market developments were regularly connected with major political news.

DATA AND METHODOLOGY

The data used in this study was collected from the Pakistan Stock Exchange (PSE). It includes the KSE-100 Index daily data for the period of 5th June 2013 to 30 March 2018. The data for the political news is taken from the leading newspapers of the country. We considered only the headlines of the newspaper. News headlines were selected using an extensive search string, containing words indicating articles dealing with macro variables, and also allowing to distinguish between articles with a positive or negative connotation towards Govt., Opposition Parties, Army, Supreme court and NAB.

RESULTS AND DISCUSSION

Table: 1 MGARCH Results

Model 1 Model 2 Model 3 Model 4
Govt. News .003
(0.000)
Constant 10.46
Opposition News -.007
(0.00)
Constant 10.42
Army News .002
(0.00)
Constant 10.42
NAB New 0.069
(0.00)
Constant 10.43
Prob>chi2 0.00 0.00 0.00 0.00
Wald Chi2 7.05 3.48 4.65 9.66
Number of Observations 1160 1156 1160 1159

The above table posed the relationship between the political news and stock returns. We found that any statement given by the ruling governments it has a positive influence on the stock market returns. It is obvious whatever the statement given by the ruling governments is always have hope for the nation. It is true that in a democratic country, the projects are highly criticized by the rest of the parties of the country and especially by the opposition party. This is quite interesting for the case of Pakistan where more than 60 political parties. So, in the previous decade governments are highly criticized by the rest of parties, and they defend their projects in a nice way to let people be stable.

The previous government has defended themselves on different forums of the country. Although it is argued by many politicians that the previous opposition was the friendly opposition and defend the government. The opposition defended by saying that they support the political system of the country. As consistent with the literature any statement given by the opposition have a significant negative effect on the stock returns of the country.

The role of the army in the developing countries is not negligible, and Pakistan is no exception. Pakistan army role in the democratic history of the country remained twofold. At one side they helped the governments in the bad times like earthquake and floods and tried to stay on one page with the governments. On the other hand, the confrontation resulted in many military coups in the country. During the elected governments whenever there is any statement given by the army has a positive effect on the stock market. This is obvious that the army is standing with the elected government and they are on the same page.

The role of NAB is getting important and important in Pakistan. People want the accountability of all departments of the governments and law is equal for all the people. The Panama papers shifted the country in an interesting scenario, and everyone is asking for accountability. That’ why it is worthwhile to discuss the role of the statement given by the NAB. We found that there is a positive relationship between the NAB news and stock returns. The statement given by the NAB gives confidence to investors business community that the country is serious towards the accountability and there is no more corruption.

CONCLUSION

This study examines the influence of political news on the stock returns of the Pakistan Stock exchange. Political instability is a challenging phenomenon in developing countries, and that is considered to be the one factor behind their poor governance and slow economic development. This study is an effort to measure the influence of the political news on the stock returns of Pakistan Stock Exchange over the time period of 2013 and 2018.

The current study period is quite interesting regarding the political situation of the country. It is a fact that a lot of developments have been done during this period. Meanwhile the governments fight not only with the opposition party but other stakeholders of the state like NAB and army. Therefore, it is quite important to study the influence of all players of the country on the stock returns of the Pakistan market. We found that statements given by ruling government, army and NAB have a significant positive influence on the stock returns of the country except the statements given by the opposition party. The reason behind this relationship is that opposition parties do not want to let the sitting governments keep winning the support of the voters for the future elections. This cause a situation of the political instability in the country which shakes the confidence of the investors and ultimately has a positive influence on the stock returns.

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