Finance Assignment

The impact of macroeconomic factors on Indian stock

market- BSE Sensex performance

Submitted to : submitted by:

Prof. Kavita Wadhwa Anindya Mitra
Assistant professor Research Scholar
IIFT, Kolkata IIFT, Kolkata
The impact of macroeconomic factors on Indian stock market- BSE
Sensex performance

Abstract- The study investigated the impact of several macroeconomic variables on the Indian stock market
performance. The study has been based on data from November 2009 to November 2019. Sensex representing
30 component companies which are some of the largest and most actively traded stocks, are representative of
various industrial sectors of the Indian economy. The study has considered the macroeconomic variables like
Dollar-Rupee exchange rate, Inflation, Gold rate, crude oil rate, 10 year bond rate. The descriptive statistics
reveals that all the variables except Gold has negative value for Kurtosis.The skewness and kurtosis are
acceptable range for all the variables. The skewness is moderately skewed for dollar-rupee exchange rate and
gold price. The remaining variables have skewness between -0.5 and 0.5, which signifies symmetric nature. The
correlation matrix highlights that Sensex has strong positive correlation with Dollar-rupee exchange rate and
Inflation, whereas Sensex has medium level positive correlation with Gold. On the other hand, it shows negative
correlation with 10 year bond rate and weak negative correlation with Crude. Dollar Rupee exchange rate
shows strong positive correlation with Inflation and Gold, and negative correlation with 10 year bond rate and
Crude rate.10 year bond rate has negative correlation with Gold and inflation and positive correlation with
Crude. Regression test has been performed with Sensex as the dependent variable.R-squared value of
0.94660126 indicate that around 95% of the variations in Sensex is due to the the independent macroeconomic
variables considered in the study. The closeness of the value to 1 indicates good fit.Higher p-value for all the
variables signify that these variables impact Sensex, may be positively or negatively. High t value signify that
the 'net' difference between the scores for EACH participant is relatively large, and could be evidence that the
intervention variable or the treatment was effective.

Introduction

Macroeconomic variables do have considerable influence on the performance of institutes, organizations,

corporations of the economy. These performances affect the stock market. The movement of stock prices is not
always based on the fundamentals of the firm but also depends on the economy and also the integrations
towards the global economy. Any impactful events in one part of the work also impacts the rest of the world
depending on its impact, size of impact and the significance of the economy as part of the global economy.

Two major theories on pricing of securities – Capital asset pricing model (CAPM) by Sharpe and and Arbitrage
Pricing Model has been the major influencers while trying to predict impact of systematic risk on security market
and the index. Capital asset pricing model developed by Sharpe in 1964 states that only systematic risk( non –
diversifiable risk) impacts the expected security returns. Unsystematic risk is associated with specific industry,
segment or security and can be eliminated through diversification of portfolio. Arbitrage pricing theory (APT) is a
multi-factor asset pricing model based on the idea asset’s expected return can be predicted using a number of
macroeconomic variables that captures systematic risk. As per APT many micro and macro factors affect the
security returns. APT provides better understanding of stock market movement and expected returns.

The macroeconomic variables have huge impact on the stock market indices. The macroeconomic variables are
often interrelated and interdependent among themselves. Therefore using all macroeconomic variables in
studying their impact on the stock market may lead to multicolinearity problem and will be difficult to delineate
the individual effects of different variables on the stock market indices.
Literature Review

A lot of research has been there about the relation between macroeconomic variables and their impact on stock
market. Chen Roll and Ross in their paper “ Economic forces and stock market ” published in ‘Journal of
Business’ in 1986, has macroeconomic variables as systematic influences on stock market returns. From the
perspective of efficient market theory and asset pricing theory, the asset or stock price depends on the
macroeconomic variables that define the economy. They investigated the sensitivity of macroeconomic
variables to US stock returns. They tested several macroeconomic variables from Jan,1952 to Nov,1984.Several
economic variables like industrial production, changes in risk premium, twists in the yield curve were found to
have significant influence on expected stock returns. Macroeconomic variables plays significant role in both the
fundamentals of the firm as well as the volatility of the stock market. They concluded that stock market returns
are exposed to economic news that is priced by the market.

The relationship between macroeconomic indicators and stock returns has been initially investigated in the
second half of the seventies, when Ch. R. Nelson and E. Fama carried out their research. Neslson in his work
stated about the existence of negative relationship between US stock returns and two types of inflation –
expected and unexpected” .Fama on the other hand included inflation as well. Fama worked on assets that
provide the best security against both types of inflation. Results were similar to the Nelson’s (Fama, 88). Fama
also studied the influence of other macroeconomic factors on stock returns, such as industrial production (IP) or
real GDP.

The macroeconomic variables have both positive and negative impacts on the stock market performance and
returns depending on the nature of the variables and the economy where the stock market is working. Different
market indices and stocks may react differently to the macroeconomic variables depending on various factors.

Studies by Atlay, 2003 revealed that stock market of developing and developed countries react differently
towards macroeconomic variables. Some of the researchers have considered only the real economic variables (
Fama, 1981) while some others used financial variables to study the impact on stock market volatility. The study
presented that stock returns are determined by forecasts of real variables, and negative stock return-inflation
relations are induced by negative correlation between inflation and real activity. Real stock returns have positive
relation with measures of real activity like capital expenditure, average real rate of return on capital and output.
The study concluded negative relations between inflation and real activity in the context of money demand
theory and quantity theory of money.

Some studies have considered both real and financial variables.

Shahid Ahmed in his paper “Aggregate Economic variables and stock markets in India” investigated the casual
relationship between macroeconomic variables and stock prices in India. The variables like Index of industrial
Production, money supply, interest rate , exports, exchange rate, foreigndirect investment, BSE Sensex and Nifty
were used from 1995 to 2007. ADF test, PP test, and KPSS tets have been applied to check the stationarity of
data. Johansen cointegration test and Granger casuality test were used to check the long run and relationship
among variables. It indicated that Indian stock market seems to be driven not only by actual performance, but
also by anticipating probable performances.

Srivastava in his paper demonstrated the influence of Macroeconomic factors like IPI, WPI, Interest Rate,
Foreign Exchange Rate and MSCI Index on the Indian Stock Market by using Johansen’s Cointegration analysis
and Vector Error Correction mechanism. IPI, WPI and Interest Rate were found to be the most effecting
variables in the long run. Local or domestic variables were found to be more impacting factors on the
performance of the stock market was more as compared to global variables.

Hosseini in his paper studied the nature of the causal relationships between the stock prices and the key
macroeconomic variables of India and China for the period January 1999 to January 2009 using monthly data.
The selected variables were the Bombay Stock Exchange (BSE) stock prices, Shanghai Stock Exchange (SSE) stock
prices, Crude oil price, Money supply, Industrial production and Inflation rate. Augmented Dickey Fuller (ADF)
unit root test, Johansen-Juselius Multivariate Cointegartion and Vector Error Correction Model techniques were
applied to explore the long-run and short-run relationships. The results of the study revealed both long-run and
short-run linkages between the macroeconomic variables and stock market indices of both countries

Mishra and Harminder demonstrated the non-linear relationship of macroeconomic variables with stock market
returns and also on its variability by using semi-parametric approaches. The selected macroeconomic variables,
i.e. Exchange Rate, Interest Rate, Industrial production, Foreign Institutional Investors and Inflation explained
volatility at 26 percent in Sensex and followed by Nifty with 11 percent.

Hashim et al., (2017) determined the positive relationship of gold and crude oil and negative relationship of
GDP, interest, exchange, and inflation rate by using the data of most gold consuming countries ( India, US, China,
Turkey and Saudi Arabia).

Bhunia in his study found that the growth rate of Gross Domestic Production was crucially impacted by the rate
of stock price, the rate of oil price and rate of exchange rate but the more influential variable is the growth rate
of stock price.

Kalra in his worksapplied multiple correlation, multiple regression & Anova test to study the impact of
Macroeconomic variables on Indian Stock Market. The selected variables like Cash Reserve Ratio, Reverse Repo
Rate, Gold Price, Silver Price, Inflation Rate, Whole Sale Price Index, GDP and Forex Rate were analyzed to
achieve the objectives. Forex Rate, Whole Sale Price Index, Inflation Rate and Gold Price were the most
significant variables.

Patel analyzed the effect of Macroeconomic Determinants on the Performance of the Indian Stock Market from
January 1991 to December 2011. Macroeconomic data on Interest Rate, Inflation, Exchange Rate, IIP, Money
Supply, Gold Price, Silver Price and Oil price used to show their effect on the performance of two major stock
market indices i.e. Sensex and Nifty. ADF Unit Root Test, Johansen Co integration test, Granger Causality Test
and Vector Error Correction Model applied to find the co-integration, long run and short run equilibrium
relationship and Causality among the variables. It concluded that a long run equilibrium relationship between
stock market indices and all macroeconomic variables exists.

Kumar in his paper investigated twelve internal and external macroeconomic variables along with stock prices of
CNX Nifty to establish this relationship between macroeconomic variables and stock market. three factors out of
12 were sorted out through data reduction technique labeled as Macro Environment, Policy Rates and Industrial
Growth. The author concluded that other than the macroeconomic variables, other factors like firm’s
performances and unseen factors also affected the Indian Stock Market.

Sangmi examined Six variables that included inflation, exchange rate, industrial production, money supply, gold
price, interest rate to study its effect on the performance of three indices Sensex, Nifty and BSE 100. Multiple
regression has been applied on monthly data which indicated a significant relationship between the dependent
and independent variables i.e. stock market prices and macroeconomic variables.
The study shows that the macroeconomic variables have impacts on the different stock markets across the
world. The impacts might be strong or weak, might be positive or negative depending on situations of world
economy, domestic economy, performance of firm’s and other factors as well.

Data methodology

The data has been collected from Rbi site, BSE,data.gov.in, oecd site,statista.com,tradingeconomics,
yahoo.finance, IMF site and few other sites. The period from Nov 2009 to Nov 2019 has been covered under the
study. Macroeconomic variables like Dollar-rupee exchange rate, crude oil rate, gold rate (UK), inflation, 10 year
govt. bond rate has been considered for the study.

Sensex is the dependent variable whereas all other variables are independent.

Descriptive statistics have been performed on the all the variables.

If skewness is less than -1 or greater than 1, the distribution is highly skewed. If skewness is between -1 and -0.5
or between 0.5 and 1, the distribution is moderately skewed. If skewness is between -0.5 and 0.5, the
distribution is approximately symmetric.

The skewness is moderately skewed for dollar-rupee exchange rate and gold price. The remaining variables have
skewness between -0.5 and 0.5. Hence symmetric.

Acceptable values of skewness fall between − 3 and + 3, and kurtosis is appropriate from a range of − 10 to + 10.

All the variables satisfy the acceptable standards.

All the variables except Gold have negative values for Kurtosis. A distribution with a negative kurtosis value
indicates that the distribution has lighter tails and a flatter peak than the normal distribution. A distribution with
a negative kurtosis value indicates that the distribution has lighter tails and a flatter peak than the normal
distribution. A distribution with a positive kurtosis value indicates that the distribution has heavier tails and a
sharper peak than the normal distribution

Descriptive statistics

Sensex Dollar Rupee 10 year bond rate

Mean 25577.93 Mean 59.791 Mean 7.762223

Standard Error 667.1468 Standard Error 0.795615 Standard Error 0.060749
Median 25753.92 Median 62.399 Median 7.815
Mode #N/A Mode 68.46 Mode 7.591
Standard Standard
Deviation 7338.615 Deviation 8.75177 Standard Deviation 0.668243
Sample Variance 53855267 Sample Variance 76.59347 Sample Variance 0.446549
Kurtosis -1.04131 Kurtosis -1.05544 Kurtosis -0.48901
Skewness 0.447707 Skewness -0.53292 Skewness -0.35121
Range 25538.27 Range 29.75 Range 2.801
Minimum 15534.67 Minimum 44.21 Minimum 6.243
Maximum 41072.94 Maximum 73.96 Maximum 9.044
Sum 3094930 Sum 7234.711 Sum 939.229
 Count 121 Count 121 Count 121
Confidence Confidence Confidence
Level(95.0%) 1320.904 Level(95.0%) 1.575263 Level(95.0%) 0.12028

Crude Gold Inflation

Mean 4443.666 Mean 79624.98 Mean 236.6081

Standard Error 107.5326 Standard Error 1089.974 Standard Error 1.019163
Median 4230.22 Median 81456.73 Median 236.916
Mode #N/A Mode #N/A Mode #N/A
Standard Standard
Deviation 1182.858 Deviation 11989.71 Standard Deviation 11.21079
Sample Variance 1399154 Sample Variance 1.44E+08 Sample Variance 125.6818
Kurtosis -0.95396 Kurtosis 0.511686 Kurtosis -0.73884
Skewness 0.22712 Skewness -0.57026 Skewness 0.01441
Range 4922.83 Range 57100.46 Range 41.397
Minimum 2004 Minimum 50654.74 Minimum 215.949
Maximum 6926.83 Maximum 107755.2 Maximum 257.346
Sum 537683.5 Sum 9634623 Sum 28629.58
Count 121 Count 121 Count 121
Confidence Confidence Confidence
Level(95.0%) 212.907 Level(95.0%) 2158.072 Level(95.0%) 2.017871

Correlation matrix

10 year
Dollar bond
Sensex Rupee rate Crude Gold Inflation
Sensex 1
Dollar Rupee 0.825134 1
!0 year bond
rate -0.59699 -0.46249 1
Crude -0.27812 -0.16669 0.676044 1
Gold 0.525428 0.652318 -0.23189 0.238577 1
Inflation 0.929134 0.91319 -0.51078 -0.08115 0.743356 1

When the r value is closer to +1 or -1, it indicates that there is a stronger linear relationship between the two
variables.
From the correlation matrix, we can find that Sensex has strong positive correlation with Dollar-rupee exchange
rate and Inflation, whereas Sensex has medium level positive correlation with Gold. On the other hand, it shows
negative correlation with 10 year bond rate and weak negative correlation with Crude.

Dollar Rupee exchange rate shows strong positive correlation with Inflation and Gold, and negative correlation
with 10 year bond rate and Crude rate.

10 year bond rate has negative correlation with Gold and inflation and positive correlation with Crude.

Gold has positive correlation with Inflation and Dollar-Rupee exchange rate.

Regression Statistics
0.9729343
Multiple R 5
0.9466012
R Square 6
Adjusted R 0.9442795
Square 7
1732.2928
Standard Error 6
Observations 121
ANOVA
Significance
df SS MS F F
Regression 5 6117535614 1.22E+09 407.7217 2.13E-71
Residual 115 345096433.7 3000839
Total 120 6462632048

R-squared value of 0.94660126 indicate that around 95% of the variations in Sensex is due to the independent
macroeconomic variables considered in the study. The closeness of the value to 1 indicates good fit.

Coefficien Standard Lower Upper Lower Upper

ts Error t Stat P-value 95% 95% 95.0% 95.0%
- -
162348.60 9150.31397 17.742 1.03E-
Intercept 9 9 4 34 -180474 -144224 -180474 -144224
- -
235.40325 47.4071396 4.9655
Dollar Rupee 1 7 7 2.4E-06 -329.308 -141.499 -329.308 -141.499
!0 year bond 409.95750 429.829392 0.9537 0.3422 1261.36
rate 7 9 68 02 -441.452 7 -441.452 1261.367
- -
1.0422676 0.23131034 4.5059
Crude 3 8 3 1.6E-05 -1.50045 -0.58409 -1.50045 -0.58409
 - -
0.1750955 0.02225303 7.8683 2.17E-
Gold 6 2 9 12 -0.21917 -0.13102 -0.21917 -0.13102
918.78852 43.6690418 21.039 3.11E- 832.288 1005.28
Inflation 1 1 81 41 6 8 832.2886 1005.288

Higher p-value for all the variables signify that these variables impact Sensex, may be positively or negatively.

High t value signify that the 'net' difference between the scores for EACH participant is relatively large, and
could be evidence that the intervention variable or the treatment was effective.

Limitations and Scope of Research

 The study has been done for limited time period. Te research period might be extended.
 Some more literature review needs to be carried out for better understanding of the recent works and
narrowing the area of research.
 Some comparison can be worked on domestic and world variables and their impact on the stock
markets.
 Some more macroeconomic variables might be considered.
 Multicollinearity among variables should be checked and only the most impact independent variables
should be considered.
 Few other tests like ADF, Granger should be extended.
 This paper can be extended for research on other nations and a comparison analysis between impact on
different stock market from different economies based on the macroeconomic variables.
 Different response to domestic and global variables can be investigated.

Conclusions

The paper has identified and investigated several macroeconomic variables to find their impact on BSE Sensex.
The data analysis has been done for the period from November 2009 to November 2019. The macroeconomic
variables shows impacts on the Sensex. Some variables like Dollar-rupee exchange rate and Inflation has strong
positive correlation with Sensex, whereas Sensex has medium level positive correlation with Gold. On the other
hand, Sensex shows negative correlation with 10 year bond rate and weak negative correlation with Crude. The
r-squared adjusted value of around 0.95 indicates that around 95% of the variances in Sensex is due these
independent macroeconomic variables. Dollar Rupee exchange rate shows strong positive correlation with
Inflation and Gold, and negative correlation with 10 year bond rate and Crude rate. From the p value and t-
values we can understand that Sensex is impacted by the macroeconomic variables. Some variables has strong
impact while others has weak impact.
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