IMPACT OF MACROECONOMICS VARIABLES TOWARD KUALA LUMPUR COMPOSITE INDEX (KLCI)

Chong Min Khiuk

Corporate Master in Business Administration

2013

Pusat Kbidm~t Maklumat Akademik UNlVERSITI MALAYSIA SARAWAJ{

IMPACT OF MACROECONOMICS VARIABLES TOWARD KUALA LUMPUR COMPOSITE INDEX (KLCI)

P.KHIDMAT MAKLUMAT AKADEMIK

1IIIIIIIIIiiITilllllllili 1000246858

CHONG MIN KHIUK

A thesis submitted

In fulfilment of the requirements for the degree of Corporate Master in Business Administration

Faculty of Economics and Business

UNIVERSITI MALAYSIA SARA W AK

2013

Statement of Originality

The work describe in this project, entitled

Impact of Macroeconomic Variables toward Kuala Lumpur Composite Index

is to the best of the author's knowledge that of the author except

where due reference is made.

June 18, 2013 Chong Min Khiuk 11031807

A BSTRAK

KesanPembolehubahMakroekonomikeatas Kuala Lumpur KompositIndeks

Oleh

Chong Min Khiuk

Kajian ini cuba dijalankan untuk menyiasat dan meni!ai kesan daripada pemboleh ubah

makroekonomi ke atas Kuala Lumpur Komposit Indeks, KLCI. Kajian ini melibatkan

beberapa pemboleh ubah yang dijangka akan memberi kesan ke atas stok market iaitu indeks . harga pengguna (CPI), penawaran wang (MS), bi! perbendaharaan Malaysia (TBR), indeks

pengeluaran perindustrian (IPI), harga emas (GP), harga minyak (OP). Data yang

diperolehi akan diuji dengan sejenis ujian yang dinamakan sebagai 'Unit root test' untuk

memastikan kepegunan data terse but. Didapati bahawa semua data adalah pegun selepas

telah melakukan ujian first d{fference '. Selepas itu, kajian diteruskan dengan ujian yang

dinamakan sebagai 'Johansen co integration test' ya,?g bertujuan untuk mengzifi hubungan

antara pasaran saham iaitu Kuala Lumpur komposit indeks dengan pemboleh ubah

makroekonomi dalam jangka masa panjang. Keputusan ujian tersebut menunjukkan bahawa

wujudnya hubungan yang kuat dan signifikan dalam jangka masa panjang antara Kuala

Lumpur komposit indeks dengan pemboleh ubah yang dipilih. Kqjian diteruskan dengan

menjalankan 'Granger causality lest ' untuk menentukan hubungan jangka pendek antara

Kuala Lumpur komposit indeks dengan pemboleh ubah makroekonomi iaitlt indeks harga

pengguna, penawaran wang, bill perbendaharaan Malaysia, indeks pengeluaran

perindusfrain, harga emas dan harga minyak. Hasil ka:jian menunjukkan bahawa wujudnya

hubungan jangka pendek di kalangan Kuala Lumpur komposit index dengan pemboleh ubah

makroekonomi iaitu penawaran. Selepas menjalankan ketiga-tiga ujian tersebut, kesimpulan

menunjukkan bahawa pemboleh ubah yang digunakan dalam kajian ini sememangnya

mempunyai kesan ke atas pasaran saham di Malaysia. Kajian ini amat penting bagi peserta

pasaran saham dan terutamanya pembuat dasar untuk memahami fingkah laku stok market

serta membuat keputusan yang tepat apabi/a melakukan pelaburan. Selain daripada itu,

melalui kajian ini juga membolehkan peserta pasaran saham memainkan peranan mereka

dalam menilai trend pasaran saham.

Kata kunci: Indeks Harga Pengguna, Penawaran Wang, Indeks Pengeluaran Perindustrian,

Bil Perbendaharaan Ma~ysia, harga Emas, Harga Minyak, Kuala Lumpur komposit indeks

.'

11

ABSTRACT

Impact of Macroeconomic Variables toward Kuala Lumpur Composite Index

By

Chong Min Khiuk

This paper is attempted to investigate and evaluate the impact of macroeconomic variables

toward Kuala Lumpur Composite Index, KL<;I. There are several variables that included in

this study, namely consumer price index (CPI), money supply (MS), Malaysian Treasury bill

(TBR), industrial production index (lPI), gold price (GP), oil price (OP). The data that

obtained will tested by the Unit root test in order to ensure the stationary of the data All of

the series data are significance after first difference was made, following by the Johansen co

integration test to examine the long run relationship of the variables. It proved that, there

.. exist long run and strong significance relationship be~ween Kuala Lumpur Composite Index

and the selected variables. The study proceeds to Granger causality test revealed that there

exist short run relationship between the Kuala Lumpur Composite Index and the variables

namely consumer price index, money supply, Malaysia Treasury bill, industrial production

index, gold price and oil price. After implemented these three tests, the result showed that the

selected variables do have impact on the stock market in Malaysia. This study is important

iii

r

for those market participants and especially policy maker to understand behavior of the stock

market as well in order to make right decision when doing their investment portfolio.

Keywords: Consumer Price Index, Money Supply, Industrial Production Index, Malaysian

Treasury Bill, Gold Price, Oil Price, Kuala Lumpur Composite Index .

.'

IV

I

ACKNOWLEGMENT

In order to complete this study, I would like to express my sincere appreciation to my

supervisor, Dr DayangAffizahAwangMarikan for her guidance and support in the whole

process of this study. Even though Dr Dayang was busy, she willing to spend her time with

me and discuss the study. The expertise and knowledge of my supervisor has benefited me to

complete this study on time. Dr Dayang has made me realize the meaningful of the research

and the effort that put.

Apart from that, I would like to convey my appreciation to my course mates, they

provided me masses valuable idea and suggestion when I am doubt. Moreover, I would like

to take this opportunity to express my gratitude to my family members. The supports, caring,

patience given by them had strengthened me !o complete this study successfully. Without

them, it would very hard for me to complete this thesis as well.

v

Pusat Khidmat Maklumat Akademik UNlVERSm MALAYSIA SARAWAK

TABLE OF CONTENTS

Abstrak

Abstract

Acknow ledgment

III

v

CHAPTER 1: INTRODUCTION

1.1 Overview

1.2 Background of Study

1.3 Problem Statement

1.4 Objective of the Study

1.4.1 General Objective

1.4.2 Specific Objective

1.5 Significance OfThe Study

1.6 Scope OfThe Study

1

2

7

10

10

12

CHAPTER 2: LITERATURE REVIEW

2.1 Overview

2.2 Review iit Developing and Developed Couptries

2.3 Summary

13

17

20

...------------------------------------~

T ABLE OF CONTENTS

Ahstrak

Abstract

Acknowledgment

111

v

CHAPTER 1: INTRODUCTION

1.1 Overview

1.2 Background of Study

1.3 Problem Statement

1.4 Objective of the Study

1.4.1 General Objective

1.4.2 Specific Objective

1.5 Significance Of The Study

1.6 Scope Of The Study

2

7

10

10

12

CHAPTER 2: LITERATURE REVIEW

2.1 Overview .,

2.2 Review in Developing and Developed CouI}tries

2.3 Summary

13

17

20

CHAPTER 3: METHODOLOGY

213.1 Overview

223.2 Data Analysis Methods

293.3 Data Description

373.4 Theoretical Framework

3.5 Empirical Model 38

403.6 Hypotheses

413.7 Summary

CHAPTER 4: RESULTS AND DISCUSSION

424.1 Introduction

424.2 Unit Root Test

4.3 Co integration Test 45

4.4 Granger Causality Test 52

554.5 Conclusion

CHAPTER 5: DISCUSSION, CONCLUSION AND IMPLICATIONS

.. 565.1 Introduction

5.2 Overview of the Study 56

5.3 Discussion and Implications 57

5.4 Policy Implications 61

625.5 Limitation and Recommendation

5.6 CONCLUSION 63

REFERENCES 64

APPENDIX 75

LIST OF TABLES

TABLE 4.2.1 UNIT ROOT TEST 43

TABLE 4.3.1 JOHANSEN TEST FOR MULTIPLE CO INTEGRATION 45

VECTORS

TABLE 4.3.2 VECTOR ERROR CORRECTION MODEL 47

TABLE 4.4.1 GRANGER CAUSALITY TEST 52

TABLE 4.4.2 CAUSALITY RELATIONSH1P DIRECTION 54

LIST OF DIAGRAM

DIAGRAM 3.4.1 RELATIONSHIP BETWEEN MACROECONOMIC 39

VARIABLES AND MALAYSIAN STOCK MARKET

I

LIST OF ABBREVIATIONS

._--\Abbrev---iations--------------------------rDesc~iptio"i1 -.

CPI ----·------------·----------t-consumer Price Index i I1---- - -.--.-..--..- ----.-.......-.-..-...--....-...-..-.+-...-.----..-.---..- .......--...--....-.....-...-...--.-.-...--..--..- ­

GOP l' Gross Domestic Product >------_._.-_._._... _._....... __ .. _-_..-......._..-..._.._._..._.__._.. _ .._._..._.._.._..._--_..._..._.._.-.-_.._._ _..--_.._---._--_..._ _ ......

IPI ________... _.. _._____ .. _.. _._ .. _.. _._....._____... I_~:.~~::_i:~ _pr:~~c_~on Inde~__._.. ____l

MS 1Money Supply

1--_________.. _._.___._......_._... _......._... _..._._...-...-..-...- ..-...-..1.--.-..---..--...-...---... .---....-.- ----..-..---..-.--.-.--­TBR I Treasury Bill

I------- -- --- --- ----1------·--------------- · --- ---------- ------- ­

::=:====~-.-~~=:=_.~j~:__ _______-_____:1:~=_--~-~=:~_KLCI I Kuala Lumpur Composite Index

Ifo---------- ---------- -. -- - -- --- - t- --- ---- . -- -- ------- - -.------- ------ ---­

KLSE ___________________ ___ ______L~~~a Lumpur ~_~~ck~:~ha~~_____

CHAPTER 1

INTRODUCTION

1.1 Overview

Economic growth and efficiency of economics have been the major goals of every

nation. To be able to maintain stable and high standard of living, policy makers and

economists are constantly searching for alternatives to assure healthy growth. When security

prices reflect all information about the market, thus it is achieving an efficient market. An

efficient capital market also promotes aggregate growing through maintaining and alleviating

the financial sector and provides them with an important investment strait. Which this will

attract domestic and foreign capital. In order to predict the movement of stock prices,

investors should be able to obtain current information of the market. However, history shows

that economic growth was never sustained in the long term. Economic instability occurred

from time to time like a storm once in a while. Economists classified this situation as the

business cycle due to the out-of-action and rumbles in economic activities.

The movement of stock market price is an important indicator to enhance the stability

of economic performance of any nation. A well-organized stock market plays a crucial role in

industry and commercial growth of the country. Positive growth of stock market simply

depicts a country with progressive development and vice versa. The prices of stock market are

detennined by demand and supply of company stocks while stock market acts to improve and

conditions economic efficiency and financial system of a country. Foreign portfolio

investment and liquidity of stocks influence stock market performance and further affects

economic performance.

1

The most recent stock market performance took a huge impact during the economy

crisis back in 2008. Evidently, the downturn was attributed to the influence of sensitivity of

macroeconomic variables in Malaysia towards stock markets.

This study analyses the causality and relationship between stock market price and

macroeconomic variables namely consumer price index, money supply, Treasury bill,

industrial production index, gold price, oil price by using the unit root test and Johansen' s co­

integration test to determine the stationary pattern of the test data with autoregressive model.

Malaysia stock prices is none other than the dependent variable while the consumer price

index, industrial protection index, gold price, money supply, Treasury bill, gold price and oil

price are categorised as independent variables.

1.2 Background of the Study

Stock market stability is a good instrument for investor to guarantee their profitability

and generate their wealth. But, stability stock market not always exists in the nowadays

Malaysian stock market. There are several issues in the stock market recently, namely the

subprime mortgage crisis; it started from 2007 until 2008, oil crisis from 1971 until 1973,

Commodity crisis, which start from 1980-1981, following by Financial crisis on 1997 until

1998. (Okposin & Cheng, 2000).

The first oil crisis in 1971 until 1973 in the world has slowdown the industrialised

countries and affected the export. A decline of stock prices is due to the rising in oil prices

and it shows any fluctuation in oil price may cause the stock return to fluctuate. (Bina & Vo

2007). Moreover, stock return may impacted from changes of the oil price. The inverse

reaction of stock prices toward oil price only found when there are rises in oil price which is

due to an increase in avoiding demand driven of crude oil. Higher oil prices will lead to 2

economic expansion and it will cause to positive effect on stock market returns. Kilian & Park

(2007). This increasing of the oil price eventually leads to increases of price goods, which this

will bear a burden to customers that finally will be experiencing inflation. As there is inflation

in the country, many sectors will be impacted such as companies and consumers. In order to

solve this issue government introduced a series of monetary measures to increase the deposit

and lending rates with purpose to reduce the burden of the company and reduce the

unemployment in order to promote economic stability in the country.

During the commodity crisis of the early 1980, it caused slowdown in the Malaysian

economy due to the rapid drop in commodity prices and increases in the domestic and

external debt this consequently had created financial imbalances with the gradual rise in the

interest rates. In 1985, Malaysian had facing the electronic crisis that caused by the huge

dropped in electronic price and this affected the Malaysian GOP.

Following by the recent economic crisis in 1997, which caused by financial crisis, had

severely impacted on stock market, exchange rates, banking sectors in Malaysian. This crisis

is due to the immediate withdrawal of short tenn capital flows from the country at the same

time the floating of Thai's baht in July 1997. The impact of the downturn leads to rises in the

inflation rate and high unemployment level in 1998, not only that, sales and profits of any

companies are expected to decrease. One of the. major public policies would be the

government would reduce interest rate and encourage spending to stimulate the economy.

According to Roubini (2006), months before the start of the recession, a sharp falling the

share prices can be observed, leading to poor financial market perfonnance. The perfonnance

ofthe stock market during recessionary periods is clearly reflected. During the financial crisis

1997-1998, the Kuala Lumpur Composite Index (KLCI) of Malaysia showed a down trend

3

from January 1997 and reached its trough in September 1998, moreover the Malaysian

currency kept depreciating and reached to 4.545 in January 1998.

Apart from that, industrial production index was also declining due to the fallen of

production in electricity, electronic, and manufacturing. In term of inflation rate, it had

increasing from 92.68 in the year 1997 to 97.59 in the year 1998. However, in 1999 the real

GDP has grown up to 5.6 per cent due to the expansionary monetary policies. But before the

financial crisis happened, the performance of KLCI's point has reached more than 1200

points.

On the other hand, the recent subprime mortgage crisis that started in year 2007,

where housing loans were given to individual with poor credit history, this eventually lead to

the failure of collecting back the loans. As interest rate begins to rise, housing price follows

suit in the opposite direction by taking dips. Consequently this leads to the bankruptcy of

several major players in the banking sector as such the Lehman Brothers, a 158-year-old

investment bank, declared bankruptcy on 15 September 2008. All these negative news have

chain reaction toward the other sectors like manufacturing, housing and mortgage,

commodities. Major indices in United States like Dow Jones, S&P500, and NASDAQ are

mostly bearish and have been decreased tremendously since then. Earnings prospect are

clouded by macro-economic concerns.

Other than the financial crisis, the stock market is affected by many other factors as

well. For example, the interest rate, gross domestic product, exchange rate, money supply,

inflation, fiscal policy and so on. It is not very practical to include all possible

macroeconomic variables to determine the performance of the stock market since many of

these variables are closely correlated giving rise to estimation problems. For this study, we are

4

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Pusat Khidmat Maklumat Akademik. UNIVERSm MALAYSIA SARAWAK

keen to find out the relationship between the Treasury bill , money supply, industrial

production index, oil price, gold price, consumer price index and the stock market index

(Kuala Lumpur Composite Index, KLCI) .

The priority expected relationship between stock market and interest rate is that they

are negatively correlated. When the interest rate is low, the stock market index will increase

and vice versa. This is due to investors shifting their money from their savings or fixed

deposits to the stock market in order to gain a higher return. Another investment instrument

which compete with investment in the stock market.

In the recent economic crisis, a recession is expected to follow by the crisis. In order

to stimulate the economy, government has lowered the interest rate. Overnight policy rate is

fixed at 2.00 and as of 29th May 2009, interest rate is 0.0 % - 1.0% for savings and current

account and 2.0 - 2.5% for fixed deposits (Public Bank). When the interest rate is iow,

investors are expected to shift their money to a higher risk instruments in order to gain higher

return. Malaysia practised a low interest rate regime due to the need to generate economic

srowth with price stability. Furthermore, inflation has not been deemed a serious issue since

the early eighties. Tn fact, many daily consumer products especially daily necessities including

but not limited to petrol, sugar, rice and etcetera are under a price control system. The graph

ow showed the Malaysia stock market movement from year 1994 till year 2012.

5

FTSE Bursa Malavsia KLCI 6 '

1800 1~ ~~~J____________________________________________~______

1400 ;.-----------------------------------------~,-----~~_4---

1200 t------~-~~--------------------------~~--~~~--------

1~ ~~~F\~~--.l_------~----------~----~~--~_4:----------

800

400

200 ~I---------------------------------------------------------

oL

Chart 1: FTSE Bursa Malaysia KLCI (KLSE) prices from 1994 to 2012.

6

.3 Problem Statement

Understanding the relationship between Malaysia stock market price and the

macroeconomic variables helps national as well as international investors to hedge and

diversify their portfolio. Ravazzolo and Phylaktis (2005) indicated that fundamentalist

investors have taken into account these relationships to predict future trends.

During the Asian financial crisis in the past few years, the fluctuating share prices of

stock market resulted in economic instability. (Tham Siew Yean, 2004). Kurihara (2006)

explained that the fluctuation and instability are due to multiple factors such as current

accounts, dividends, enterprise performance, exchange rates, gross domestic product, money

supply, interest rates and foreign countries stock price. These factors directly and indirectly

impact on the stock market and cause fluctuation of stock price periodically. Apart from that,

there are drastic dropped in the private investment due to the inefficiencies of country's new

policy namely AFC, a fiscal deficit policy which leads to higher corruption that faced by

investors and public. Malaysia was stuck in the phenomena of losing its competitive edge as a

low cost producer. Moreover, Malaysia is facing unhealthy public revenue structure which is

lower and narrow in tax rate, whereas higher in government revenue up to 40 per cent. This

higher revenue is derived from the oil and gas earnings, yet Malaysia is expecting will

running insufficient of these resources and expected will not sustainable in the long term.

(World Bank, 2009)

During the 2008 global financial crisis also, the gold price has been escalating at an

1IIlJRCedented level. This have given the investor calm enough to keep gold in their portfolio,

whereas for investors who suffered heavily loss from the stock price falling did think invest

OD tb gold. However, gold price is not always shows adverse movement with the stock price 7

Malaysian

'

:__

over the time, the gold price may boom or crash during the crisis. Therefore, it is important in

vestigating the study regarding on these issues.

In addition, Ang and Ma (2001) pointed out that financial analysts failed to anticipate

the flaws of their corporate subjects which further led to the failure to make sufficient

adjustments of original forecasts after the market crash. However, no panic or herding on

large scale was evident. The stubbornness of the analysts to improvise and recover from other

market and macroeconomic events was attributed to the already wavering forecasts which had

ultimately showed that the analysts were totally out of place during the crisis.

On the other hand, the post-crisis era saw improvements due to upturn in global

economy and reinforced the importance of the integration of Malaysia with global economy

and the bounded implications as explained by Abidin and Rasiah (2009). The injection of

fi$C8l stimulus and accelerated development expenditure were part of the response from

government to have successfully overturned the economic contraction.

Government injections will affect the labour incentive, government capital fonnation and

agregate demand. Lastly it will effect on financial perfonnance of Malaysian stock market.

However, in the November 2007, stock market index was achieving almost RM

1 96.98 at the highest level and it experienced the lowest level in 2001 and 2008 which is RM .­

512.88 and RM 863.61 respectively. This huge reduction from the highest level is caused by

mic downturn in U SA which also affecting Malaysian stock market index. According to

Babammshah et aI., (2002), there are closer relationship between financial market and

alluti'on of economic. In fact, anything that happened to the financial market will affect the

"00 in economic activities. (Ibrahim & Wan Yusoff, 2002).

8

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Although previous findings found many factors influencing the fluctuation of stock

ct, much of the research have showed inconsistent results across countries and time. In

eral, different studies provide different results. Therefore, it will be essential to have a

~ra_rch to investigate the real situation in Malaysian stock market by using different

"cators namely consumer price index, money supply, Malaysian treasury biU, industrial

QODUI1odity indicates that might contribute to the stock market changes. Such information will

crucial especially to market participants enabling them to make a better decision for their

investment.

9