CHAPTER ONE

INTRODUCTION

1.1              BACKGROUND OF THE STUDY

Stock market reacts in response of various factors ranging from macro-economic, political and socio-cultural behavior of any country. Like any other stock market the Nigerian Stock exchange also reacts either positively or negatively by a number of factors occurring within or without the macroeconomic system. A stock exchange is an organized institution where the securities of joint stock companies are traded freely and the prices are determined by the forces of supply and demand. In simple, it is a place where buyers and sellers come together to exchange their holdings (shares, bonds, derivatives etc.) during on business hours. Investment in equity shares in the stock exchange is one of the major avenues of investment that yields considerable returns to investors. It is also a source of finance for the capital requirements of firms. Returns from such equity investments are subject to vary owing to the movement of share prices, which depend on various factors which could be internal or firm specific such as earnings per share, dividends and book value or macro-economic factors such as crude oil price/subsidy removal interest rate, GDP, inflation, government regulations and Foreign Exchange Rate (FOREX). Share price is used as a benchmark to gauge performance of a firm and its variations as an indicator of the economic health or otherwise of a firm hence the need to be conversant with the factors that could adversely affect share prices. However, this study will provide an overview of the Nigeria macro economy and its effect on bank share value. This study will also make use of Capital Asset Pricing Model CAPM couple with the use of past stock market price and dividend payout to determine the value of the bank stock. The valuation from this analysis in this study will form a basis for signifying if the stock is overpriced or underpriced. Recommendations will also be made on if the bank stock should or shouldn't be bought for more or less.

The Stock market plays a major role in financial intermediation in both developed and developing countries by channeling idle funds from surplus to deficit units in the economy. As the economy develops, more resources are needed to meet needed rapid expansion; The stock market serves as a veritable tool in the mobilization and allocation of savings among competing uses which are critical to the growth and efficiency of the economy (Alile, 1984).It is well established in the financial literature that stock prices react sensitively to macroeconomic factors. But these factors are not precisely predicted by finance theories. Starting from the 1960s, the finance theories however, focused on financial asset prices and their returns, and factors determining them. First, using Capital Asset Pricing Model (CAPM) which was introduced by Sharpe (1964) they settled on the risk-free return as the determinant of asset price. The addition of new variables led to the rise of alternative theories, such as the Arbitrage Pricing Theory (APT) developed by Ross (1976). APT claims that although there are a few systematic variables affecting average returns of stocks in the long run, there are many variables affecting the returns of each single stock. The APT implies that the return of an asset can be broken down into an expected and unexpected or surprise component, Inthis sense,the APT is more general than the CAPM, becauseit allows a largernumber of factors to affect the rate of return (Tunah, 2010). The growing theoretical literature in these areas has also witnessed increasing empirical testing and validation but most of these empirical studies have been for advanced economies and only few have studied emerging and developing countries like Nigeria. No doubt, a relationship exists between stock market development and growth of the economy. Indeed, stock prices are generally believed to be determined by some fundamental macroeconomic variables such as interest rate, inflation, money supply and exchange rate. Empirical evidence has shown that changes in stock prices are linked with macroeconomic behavior in advanced countries (Muradoglu, et al, 2000; Diacogiannis et al, 2001; Wongbampo and Sharma, 2002; Mukhopahyay and Sarkar, 2003; Gan et al, 2006; Robert, 2008). Edo (2005) pointed out that the 2002 stock market price adjustment in Nigeria was characterized by perceived irrationality. He attributed the high equity price movement to the irrational behavior of market participants especially in cases when market fundamentals were not strong. There have been controversies among scholars, researchers and finance professionals with regards to what triggers movement in the stock prices from their fundamental value. These have generated questions and led to efforts to find out if market and economic fundamental are responsible for such deviations. In explaining stock market price dynamics in Nigeria, there has been quite a large volume of literature and these literature tend to use specific factors, in the context of CAPM and APT models without given adequate consideration to macroeconomic variables. The question then arise: to what extent and in what ways can movement in stock prices be determined by changes in macroeconomic variables in developing countries like Nigeria?

1.2   STATEMENT OF THE PROBLEM

The fiscal sector contraction brought about private sector credit crowding-out and impacted negatively on the capital market thereby affecting stock investment. The internal management crisis and the absence of effective supervision and regulation on the part of the regulators have slowed down the recovery of Nigerian capital market development. Ineffective regulatory surveillance by Security and Exchange Commission (SEC) and the NSE, and high transaction cost has also affected investors’ confidence in the market. Major global events throughout the world such as political unrest and insecurity have influenced investors’ confidence and also have an impact on stock prices. This factor influences what they do with their money as no investor will like to invest in an unstable political environment. In spite of all these, the Nigerian capital market still has good prospect; the reduction in costs of transaction, publication of periodic forecasts of quoted companies, strict regulatory surveillance by both the SEC and NSE that would reinforce investors’ confidence in the market, and resolving of all internal management crises are necessary to ensure efficient and robust capital market.

1.3      OBJECTIVES OF THE STUDY

In view of the above scenario, the purpose of this study is four-fold, namely, to:

1)              Determine the effect of Gross domestic product on share price Value determination;

2)              Ascertain the effect of Exchange rate on share price Value determination;

3)              Show the linkage between inflation and share price Value determination;

4)              Assess the impact of interest rate on share price Value determination.

1.4      RESEARCH HYPOTHESES

H0: There is no effect of Gross domestic product on share price Value determination.

H0: There is no effect of Exchange rate on share price Value determination.

H0: There is no linkage between inflation and share price Value determination.

H0: There is no impact of interest rate on share price Value determination

1.5   SIGNIFICANCE OF THE STUDY

The study will x-ray the effect Nigeria macro economy has on stock price value determination. This information is relevant to the policy makers as they will tailor their policies positively to ensure that stock price value is determined proportionately. Also, the investors will need this information in order to make decision regarding their investment time and value.

1.6   SCOPE AND LIMITATION OF THE STUDY

The primary interest of this study was to examine the effect of Nigeria macro economy on share price value determination. The study examined some significant indicators and its trends spanning from 1986- 2014.

1.7   ORGANIZATION OF STUDY

For simplicity and ease of comprehension, this paper is divided into five chapters. Chapter one is the introduction. It dwells on the importance of the operations of stock market and financial institutions’ collaborative part in stock price determination. Chapter two delves into the literature review, enunciating recent position of scholars on stock price movement. Chapter three is the methodology while chapter four; data obtained are presented, analyzed and tested for informed judgment. Chapter five is the final section and dwells on emerging findings arising from the discussion of the paper for operational and technical considerations.

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