Monetary Conditions and Stock Returns: A South African Case Study
Extensive research on the linkages between monetary conditions and stock returns has been conducted in developed countries. This is in sharp contrast to the situation in developing countries. This paper therefore aims to study the long believed asymmetrical relationship between changes in monetary conditions and subsequent changes in stock returns in South Africa. Research in the United States of America (US) indicates that US stock returns are significantly related to the US monetary environment. The findings and results show that expansive (restrictive) monetary conditions serves as good (bad) news for stock returns, i.e. cuts in interest rates are followed by periods of excess stock returns, while increases in interest rates have a restrictive effect. The results of this study (for South Africa over the period 1991-2001) are in line with international findings, but are, in terms of South Africa, in contradiction with the findings of a previous study. This previous study on the relationship between South African monetary conditions and stock returns suggests that South African stock returns were not related to South African monetary conditions. The results of this (current) study, however, disputes the conclusions of the previous study indicating that, for South Africa, expansive monetary conditions are indeed followed by excess stock returns, while restrictive monetary conditions are followed by low or negative stock returns. The South African stock market thus perform better (worse) in expansive (restrictive) monetary conditions. This inverse relationship also seems to be more apparent in expansive than in restrictive monetary conditions. Empirical results show that the role and potency of monetary conditions, as proxied by a short-term interest rate and a monetary conditions index, in the behaviour of stock market performance for South Africa has increased over the study period, indicating the growing importance of the credit and exchange rate channels in affecting domestic monetary conditions and stock returns.
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