Global Financial Meltdown, Stock Market Volatility And The Nigeria Economy

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Global Financial Meltdown, Stock Market Volatility And The Nigeria Economy


This study investigated the relationship between volatility in the United States economy and capital markets, and the Nigerian capital market and economy alike. The aim being to determine if the Nigerian bourse is volatile and if it is significantly affected by the current global economic meltdown (using data from the United States as proxies). Using secondary data for the period December, 1990 to December, 2008, the study made use of multiple regression analysis and the extension of Engle (1982) ARCH model, which is the GARCH model, developed by Bolerslav (1986).
The study found positive and significant relationship between volatility in the United States economy (and bourse) and volatility in the Nigerian economy (and bourse). The result also discovered that the level of volatility was higher in the Nigerian bourse and that the level of Nigeria’s economic performance is not significantly determined by the level of volatility in the Nigerian bourse though, a weak relationships exist. Because of this weak relationship and significant effects of external stocks on Nigeria’s economy and bourse in particular. It is recommended that the Nigerian economy be properly diversified in such a way that it does not depend upon only one source of revenue. Also, policy makers are advised to be careful in their use of the Nigerian bourse as a barometer to reflect performance in the general economy as our findings suggests that this could lead to misleading conclusions. Finally, we recommend an improvement in the depth and breadth of financial products currently obtained in the Nigerian bourse.

Chapter One


1.1 Background of the Study

Numerous empirical studies have appeared in recent years concerning the volatility of stock market returns. Indeed a wide variety of research has been conducted on stock returns volatility in both developed and emerging markets since the 1970’s in which the nature of volatility in different markets at different point in time were uncovered; and financial economists during this period have been able to determine the causes and variables behind the existence, nature and anomalies relating to market volatility.

More recently, the volatility of stock market prices and returns on the Nigerian stock market has been a major concern to investors, analysts, brokers, dealers and regulators. Stock return volatility has severally been defined as a representation of the variability of stock price changes (perceived by many as a measure of risk). Variability also refers to the degree to which financial prices fluctuate. Large volatility means that returns (i.e. the relative price changes) fluctuate over a wide range of outcomes. The understanding of the level of volatility in a stock market will naturally be useful in the determination of the cost of capital and in the evaluation of asset allocation decisions. Policy makers therefore rely on market estimates of volatility as a barometer of the vulnerability of financial markets (Olowe, 2009). However, the existence of excessive volatility, or “noise” in the stock market undermines the usefulness of stock prices as a “signal” about the true intrinsic value of a firm, a concept that is core to the paradigm of the informational efficiency of markets (Karolyi, 2001).

The traditional measure of volatility as represented by variance or standard deviation is unconditional and does not recognize that there are interesting patterns in asset volatility: e.g., time-varying and chestering properties. Researchers have introduced various models to explain and predict these patterns in volatility. Engle (1982) introduced the autoregressive conditional heteroskedasticity (ARCH) to model volatility. Engle (1982) modeled the heteroskedasticity by relatiing the conditional variance of the disturbance term to the linear combination of the squared disturbances in the recent past. Bollerslev (1986) generalized the ARCH model by modeling the conditional variance to depend on its lagged values of disturbance, which is called generalized autoregressive conditional hetereskedasticity (GARCH). Some of the models include IGARCH originally proposed by Engle and Bollerster (1986), GARCH-in-mean (GARCH-M) model introduced by Engle, Lilien and Robins (1987), the standard deviations GARCH model introduced by Taylor (1986) and Schevert (1989), the EGARCH or Exponential GARCH model proposed by Nelson (1991), JARCH or Threshold ARCH and Threshold GARCH were introduced independently by Zakoian (1994) and Gilosten, Jajanoathan, and Runkle (1998), the power ARCH model generalized by Ding, Zhvanzin, C.W.J. Granger, and R.F. Engle (1993) among others.

If investors are risk averse, theory predicts a positive relationship should exist between stock return and volatility (Leon, 2007). If there is a high volatility in a stock market, the investors should be compensated in form of higher risk premium. The GARCH-in-mean (GARCH-M) model introduced by Engle, Lilien and Robbins (1987) has been used by various researchers to examine the relationship between stock return and volaitility (see French, Schwert and Stambough, 1987; Cheu, 1989) while some others found it negative (Nelson, 1991; Colosten et al, 1993 among others). Little or no work has been done on modeling stock returns volatility in Nigeria particularly using GARCH models (Olowe, 2009).

Furthermore, the term “global economic meltdown” (with its pervasive effect) on many economies, is increasingly becoming a topical issue in many developing and emergent economies in recent time. It currently is used to refer to a financial crisis that is currently plaguing much of the advanced world with increasing levels of spillovers into the economies of developing nations. The current global financial crisis which was triggered by the credit crunch within the US sub-prime mortgage market, is continuing to spread and deepen in several countries. Countries around the world have approached this whirlwind pragmatically, prompting emergency funding support for relevant sectors, thereby mitigating the impact of the crisis on economies as well as avoiding the entire collapse of the international financial system. In spite of such support, some countries have been officially declared as being in recession, owing to a monumental decline in their wealth, manifesting itself in falling productive capacity, growth, employment and welfare (Ajakanye and Fakiyes, 2009).

The global financial crisis of 2008, an ongoing major financial crisis, could have affected stock volatility. The crisis which was triggered by the sub-prime mortgage crisis in the United States became prominently visible in September, 2008 with the failure, merger, or conservatorship of several large United State – based financial prime exposed to packaged sub-prime loans and credit default swaps issued to insure these loans and their issuers (Wikipedia, 2009). The crisis rapidly evolved into a global credit crisis, deflation and sharp reductions in shipping and commerce, resulting in a number of bank failures in Europe and sharp reductions in the value of equities (Stock) and commodities worldwide (Wikipedia, 2009). The financial crisis created risks to the broad economy which made central banks around the world to cut interest rates and various governments implement economies stimulus packages to stimulate economic growth and inspire confidence in the financial markets. The financial crisis dramatically affected the global stock markets. Many of the world’s stock exchanges experienced the worst declines in their history, with drops of around 10% in most indices (Wikipedia, 2009). In the US the Dow Jones industrial average fell 3.6%, not falling as much as other markets (Olowe, 2009). The economic crisis even caused some countries to temporarily close their market (Wikipedia, 2009).

The purpose of this study is to determine if the Nigerian economy is affected significantly by the current global economic meltdown, with the aid of secondary data collected between the periods of 1990-2008. Specifically our aim is measure the level of volatility in the Nigerian bourse for the specified period of time. Also this study sought to determine if the level of volatility in the Nigerian bourse is significantly determined by the level of volatility in the American economy using United States gross domestic product (GDP) and the Dow Jones Industrial Average (DJIA) as proxies for reflecting the effect of the global economic meltdown on the Nigerian economy. Lastly, the study also sought to determine if there is a significant relationship between Nigeria’s economy performance and its level of stock market volatility.

1.2 Statement of Research Problems

Over the last few months the Nigerian regulatory authority where of the opinion that the Nigerian economy was totally insulated and free from the global financial meltdown and praised such softy programmes as the recent banking industry reform and consolidation programme, the on-going power sector reforms and indeed the seven (7) point agenda of the then current administration (see Soludo, 2008 CBN 2008). Yet it stands to common sense that no economy in the world can exist effectively in isolation as they must of a necessity have to trade with other nations. This trade could be in the form of good for good (Barker system), services for services or the normal typical trade which will naturally involve foreign exchanges. Some nations may even further depend upon one or a few core commodities in other to raise the much needed foreign exchange which will be used to settle its transaction in international scale and some of a great part of their external reserve may be managed by institutions based in some countries, seriously affected by the current global economic meltdown. Such a scenario will naturally lead to high degree of risk as there is the logical reasoning that the features of such economies and their institutions (positive or negative) will seriously impact (or affect) the local economy (of a country) whose reserve is domiciled there. Against this background, our foray into this continuous issue is aimed at determining the general effect of the global financial meltdown on the Nigerian economy and more specifically, with respect to its effect on stock market volatility in Nigeria. Specifically, these problems are:

  1. What effects will happenings in the US economy have on Nigerian local economy
  2. What effects would the direction of movement of the US Dow Jones Industrial Average have on the Nigerian bourse
  3. What effect would volatility level in the US economy have on the level of volatility in the domestic (Nigerian) economy
  4. What effect would the economic performance in the US bourse have on Nigeria’s economic performance

1.3 Statement Of Research Questions

Specifically, the following research questions are posed:

  1. Is the Nigerian stock market volatile?
  2. Is volatility in the Nigerians stock market a result of the volatility in the United States stock market?
  3. Is there a relationship between Nigeria’s economic performance and the economic performance of the US?
  4. Is there a relationship between Nigeria’s economic performance and its level of stock market volatility?

1.4 Objectives of the Study

  1. To ascertain if the Nigerian stock market is volatile;
  2. To determine if the level of volatility in the Nigerian stock market is as a result of the volatility in the US stock market;
  3. To ascertain if there is a relationship between Nigerian’s economic performance and the US economic performance;
  4. To determine if there is a relationship between Nigeria’s economic performance and its level of stock market volatility.

1.5 Hypotheses of the Study

The hypotheses to be tested will provide answers to the research questions and as well assist in dealing with issues raised in the research problems and objectives. The hypotheses are stated in the null form as follows:

Ho1­: That there is no significant relationship between the Nigerian economic performance and stock market volatility in Nigeria.

Ho2: That there is no significant relationship between the Nigerian economic performance and the United States economic performance.

Ho3: That there is no significant relationship between the Nigerian economic performance and the United States stock market (Dow Jones Industrial Average) volatility.

1.6 Scope of the Study

The scope of this study will be limited to the Nigerian capital market with special reference to the level of stock price movements in the Nigerian bourse, data on United States Dow Jones Industrial Average (DJIA) as well as United States Gross Domestic Product(USGDP). The study will also utilize data concerning the Nigeria stock market all share index and the Nigerian Gross Domestic Product (NGDP). Hence, all data will be collected for the period 1990-2008.

1.7 Significance of the Study

The Nigerian stock market has changed greatly over the last decade. This is basically as a result of the various capital market reforms that have been implemented over the years. This has led to an increase in the level of activities in the stock market.

The significance of the study is of two fold namely practical and theoretical significance. Practically, this study will be useful not only in the Nigerian Stock Exchange but also to other financial institutions that may be opportune to lay hands on a copy of this study. Theoretically, the study will be useful to scholars as well as researchers, the findings of the study can generate researchers interest on different area of the impact of global financial crisis, which will enrich the literature of the impact of global financial crisis stock market volatility and the Nigerian economy.

1.8 Organization of the Study

The study is organized into five chapters as follows,

  • Chapter one provides the background to the study, statement of the research problems, objectives of the study, hypotheses, the scope of the study, the significance, the organisation, and the limitation of the study.
  • Chapter two contain the review of related literature from various authors, journals and newspapers.
  • The forms of chapter three is the research methodology with emphasis on model specification, sample and sampling techniques, analytical tools, data collection and data analysis
  • Chapter four is concerned with data analysis as well as the various data presentation techniques to be used.
  • The summary and conclusion from the study, recommendations offered and suggestions for further studies is covered in chapter five.

1.9 Limitations of the Study

The data utilized in this study are purely secondary in nature. This covers data on All Share Index and Gross Domestic Product which are usually from accurate in an emerging economy (Nigeria inclusive) as a result of inadequate record keeping, and inefficiency on the part of the official statutory agencies. Also, results from data can be baise as a result of the imprecise measurement of variables. However, the inability for the research to obtain a completely random sample and the smallness of the sample size is also encountered. Effort will however be made to ensure that these limitation are significantly reduced.

Chapter Five

Discussion of Results, Summary of Findings, Conclusion and Recommendation

5.1 Discussion of Results

Table 1.5 shows the relationship between the global financial crisis and the Nigerian stock market for the period under study. Using the a priori criteria of evaluating the parameters, except the constant term, all other variables met no a priori expectations hence not fulfilling the economic criterion of the model. The results show that FXGR is linear (positive) and statistically insignificant to MKTPZ while, FDISMKT also have a linear (positive) and statistically insignificant relationship with MKTPZ. However, in contrary FRVS is non- linear (negative) and also statistically insignificant to MKTPZ. Furthermore, the results of the test of the overall significance of the model using F-statistics shows that the entire model is statistically significant. We arrive at this conclusion because the F-statistics of 0.938073 is greater than the F-probability which is statistically near zero as: 0.000143. The coefficient of multiple determinations (R2) indicates that approximately 75% of total variation in the dependent variable (MKTPZ) is explained by the independent variables in the model. This means that the model is a good fit. Finally, the Durbin-Watson statistics, a rule of thumb for the measure of autocorrelation is greater than the R2 (1.228950>0.745430), thus indicating the absence of first order autocorrelation.

From the t-statistics and its associated probabilities test shows that the parameters which are foreign exchange rate (FXGR), foreign direct investments on stocks (FDISMKT) and foreign reserves (FRVS) respectively as proxy of global financial crisis except the constant term are not statistically significant at 5% level. Thus, we therefore, accept the null hypotheses and conclude that the global financial crisis has no significant impact on the Nigerian stock market performance. Based on existing economic theory that, if the foreign exchange rate is devalued it will increase foreign direct investment or mobilizes capital inflow and invariably increase market capitalization. Thus, this motive of regulating foreign exchange rate to attarct foreign investment and to increase foreign reserves to strengthen the local currency is overturned in this model. Analyst and market insiders have given various reasons for the persistence fall in the prices of stock in the market ranging from budget delay, exit by foreign investors to other profit making ventures and price manipulation by insiders, but this result and the continued bearish trend have falsified the postulation. Now we can say that policies of regulators must have played a negative role in deepening the recession or the financial crisis, as many of the policies acted out of line with the realities on ground in the Nigerian stock market. These include the withdrawal of the margin facility by the apex bank, the uniform end of the year financial statement by banks, over subscription, greed and ignorance, domestic monetary and financial policies, etc. Only the intercept has significant impact on the Nigerian stock market performance for the period under study. This confirms that other variables not capture in the model affected the market capitalization as the aftermath of the global financial crisis.

5.2 Summary of Findings

The study findings are summarized as follows:

  1. Foreign exchange rate has no significant impact on the Nigerian stock market performance for the period under study.
  2. Foreign direct investments on stocks have positive but insignificant impact on the Nigerian stock market performance for the period under study.
  3. Foreign reserves have no significant impact on the Nigerian stock market performance for the period under study.
  4. The study also found that 25% of other factors not accounted for in the study tend to be causal factors of shocks for Nigerian stock market in response to the global financial crisis.

5.3 Conclusion

The crux of this project examined the impact of global financial crisis on the Nigerian stock market performance; with particular interest to proxy the impact variable (global financial crisis) as foreign exchange rate, foreign direct investment on stocks and foreign reserves and market capitalization as stock market performance proxy. The study carried out a thorough comprehensive related literature review and found that there was no consensus among the researchers on the studied topic, some agree with significant implications while others submitted entire negative and insignificant implications. The ordinary least square regression model was employed to test the parameters and the t-test was used to test the three hypotheses outlined in the study to give clarity of purpose. The outcome of the test shows that the global financial crisis has no significant impact on the Nigerian stock market performance for the period under study. Thus, this is not withstanding that, the global financial crisis has cause an unprecedented process of shocks on the Nigerian stock market operations, resulting to enormous capital flight that shakes its operations in the system. Our conclusion therefore, is that, there should be a proactive and effective regulatory system redesigned for the successful operation of the Nigerian stock Market and as well as to allow privatization policy to strive. This will motivate domestic and allied investors not to relent in their investment and developmental strives in the Nigerian stock market as to better the economy at large.

5.4 Recommendations

From the empirical analysis and results obtained from the T- test, we are constrained to recommend as follows:

  1. Government and regulatory authorities should put in place workable and effective policies to check the vast range of foreign exchange rate disparity in order to attract capital inflow.
  2. Improve the declining market capitalization by encouraging more foreign investors to participate and invest in the market. This is because capital inflow and market capitalization are positively related.
  3. Restore confidence to the market by regulatory authorities through ensuring transparency and fair trading transactions and dealings in the stock exchange.
  4. Ensure peace and stability in the socio-economy and the political system of the nation by stopping religion and ethnic crisis. This will also encourage more foreign investors into the system.
  5. We also recommend: Impact of information difference on the Nigerian stock market performance as an area to re-examine.

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