Effect Of Exchange Rate, Rate Of Inflation, Fiscal Deficit And Trade Balance On Karachi Stock Exchange

Abstract

ABSTRACT Alternative pricing theory proposes a model for the calculation of cost of capital of a security based on the influence of macroeconomic factors on the price of security. According to APT, equity prices are affected by various factors, which are broad and macroeconomic in nature, affecting the performance of expected cash flows of the security and hence, its price. This study empirically validates the APT model using Exchange rate, Rate of inflation, Fiscal deficit and trade balance as the macroeconomic indicators. We have employed monthly data of KSE 100 index and broad macroeconomic variables to validate APT model. 6 month T-bill rate has been considered as a proxy for the risk free rate and monthly averages have been calculated. The percentage change in KSE 100 has been regressed with the monthly data of the macroeconomic variables. Multiple regression analysis is done using the time series methodology. The T-test shows that all the considered variables have no individual effect on the equity prices. The findings indicate a negative relationship for inflation (CPI), exchange rate (ER) and trade balance (TB) and positive relationship with fiscal deficit (FD). Hence, We cannot say that APT is valid on KSE.