Financial Crises and Stock Market Behaviors in Emerging Markets

(ProQuest: ... denotes formulae omitted.)IntroductionThe subprime mortgage crisis started in the US and spread rapidly to the global financial markets. This turbulence caused substantial damage to the other sectors of the real economy as well as the global financial markets. The increasing uncertainty caused a decrease in investor confidence and the postponement of investment decisions. Thus, the GDP growth rate and exports declined dramatically in both advanced and emerging markets. Although a majority of the emerging markets were affected severely, those that had strong economic fundamentals or were less integrated into the global financial markets experienced less negative effects. Nevertheless, when we look at the overall scenario, the emerging market equities index (MSCI-EM) experienced a drastic change of nearly 53% in 2008, and the net capital flow to emerging markets declined radically to one-fifth of their 2007 level in 2009. Subsequently, the European sovereign debt crisis provoked similar outcomes in the emerging markets. During these crisis periods, the financial markets in emerging countries faced unexpected changes in stock market dynamics such as the volatility of return, risk and asymmetry. Hence, because of the key role of the financial markets that may influence all the sectors in an economy, it would be useful to examine the effects and size of the financial crisis on stock market behavior. These behaviors lead the investment decisions of investors. An increase in stock market volatility is interpreted by investors as a rise in risk, and investors may change their investment positions to less risky assets. This may have changed the amount of capital flow to countries that have equity markets that are vulnerable in terms of local firms that need to fund and improve trading activities.Although there is a vast literature on stock market dynamics using different methodologies, the majority of studies used the Generalized Autoregressive Conditional Heteroskedasticity (GARCH) family to investigate stock market volatility. Recent studies on the dynamics of emerging stock markets have focused generally on the impacts of the global financial crisis in terms of volatility, linkage and contagion. However, we focus only on volatility, risk-return and asymmetry issues by using the GARCH, E-GARCH and GARCH-M methodologies in this paper.Although many earlier studies attempted to analyze the behavior of stock market volatility, many of them focused on the advanced financial market. The first studies that focused on emerging financial markets were by Choudhry (1996) and De Santis and Imrohoroglu (1997). Choudhry (1996) examined the effects of the 1987 stock market crash on emerging market volatility, risk premium and the persistence of volatility. The results indicated that there have been changes in the variables mentioned above after and before the 1987 crash. De Santis and Imrohoroglu (1997) compared emerging financial market volatility with advanced financial markets, and they observed significantly higher volatility for emerging financial markets.Verma and Mahajan (2012) examined the impact of the 2008 US crisis on the stock return volatility of the Indian stock market. They demonstrated that return volatility has been higher during the crisis period, while the mean returns have been lower than those in the post-crisis period. An additional study was conducted by Sakthivel et al. (2014) for India. The results are similar to the findings of Verma and Mahajan (2012). The volatility of mean returns was higher in the period after the crisis. Ali and Afzal (2012) investigated the same question mentioned above for Pakistan as well as India. The inertia of volatility clustering prevails in the stock markets of both countries. Additionally, the subprime crisis revealed the asymmetry impact and negative significant impact on stock returns. An additional study including the effects of the subprime crisis on stock market volatility was made by Angabini and Wasiuzzaman (2011) for Malaysia, and they observed more volatility, but the volatility persistence had decreased during the global financial crisis. …