Are MENA and Pacific Basin Stock Equity Markets Predictable?

Fathia Elleuch Lahyani

doi:10.1177/2158244014558039

Abstract

This research uses variance ratio analysis to test whether Middle Eastern, North African (MENA) and Pacific Basin emerging equity markets follow a martingale behavior during the period1980-2004. The conventional Lo and MacKinlay variance ratio test, the multiple variance ratio test of Chow and Denning, rank- and sign-based test of Wright, and wild bootstrap of Kim are used for the monthly return series. The problem of thin trading was addressed using Miller, Muthuswamy, and Whaley’s adjusting procedure. Results have shown traces of a martingale behavior at high holding horizons. However, overall conclusions indicate that the null martingale hypothesis is strongly rejected for the whole sample and considered sub-periods at a 5% significance level. The pattern of the variance ratio estimates signify that the selected stock markets exhibit persistent mean-reverting and predictable behavior in their monthly adjusted returns series. The results expose the ineffectiveness of economic liberalization and privatization measures implemented in the early 1990s to improve their market efficiency. The Asian crisis did not affect the outcomes of the variance ratio analysis. Moreover, it sounds as if the perceptible development in terms of size and liquidity was not sufficient to exhibit a martingale behavior in these markets.

Highlights

Given the influential work of Fama (1970), academics believe that in an efficient market, all available information is fully incorporated and prices are instantly adjusted to their new equilibrium values
A multiple comparison of the set of variance ratio estimates shows that none of the indices shows a martingale on the basis of the sign S and rank R and R variance ratio tests at 5% significance level (Table 5)
We extend the findings of Al-Ajmi and Kim (2012) who confirmed that the martingale does not hold for the Gulf Cooperation Council (GCC) stock markets at both daily and weekly frequencies

Summary

Introduction

Given the influential work of Fama (1970), academics believe that in an efficient market, all available information is fully incorporated and prices are instantly adjusted to their new equilibrium values. Technical and fundamental analysis based on the study of the sequence of historical prices for predicting future movements is useless. This means that there are no systematic profitable arbitrage opportunities. Spectral analysis, or runs tests, earliest studies showed that stock prices follow a random walk providing evidence in favor of the weak-form efficient market hypothesis. These tests did not control for time-varying volatilities. Following the works of Poterba and Summers (1988) and Fama and French (1988), many researchers such as Chen and Deo (2006) and Smith (2009) challenged the earlier findings

Objectives

Results

Discussion

Conclusion