Effect of insider trading prohibitions: Regulation on security market returns in Kenya

Abstract

This paper provides an analysis of legal insider trading on the Nairobi Securities Exchange(NSE) by using data published by security market. An event study methodology was used todetermine the unit of analysis. The causal research design was used on the event to find outwhether there was any significant difference between pre and post regulation by observing thebehaviour of abnormal returns and stock returns volatility. The sample comprised of 39companies out a population of 55 companies that traded continuously from 1998 to 2010. Themarket model was used to determine alpha and beta to calculate abnormal returns. The GARCHmodel was used to find the significant difference between the pre and post regulation throughstock market volatility. The study results indicate that the regulation analysed had evidence ofabnormal returns that accumulated slowly over the event period of the regulation. The analysis ofregulation on insider trading shows high level of abnormal returns ranging from 0 to 8. Theregulation results indicate reduced volatility during the post regulation as indicated by theGARCH model. Statistical analysis gives an F statistic of 242.5 while the critical F statistic is3.85. The results indicate that investors viewed the regulation as good news to the market. Therewas anticipation among the investors during pre-regulation as reflected by stock volatility duringthe pre-regulation period. The study concludes that regulation of the capital market brings aboutefficiency through reduced volatility and reduced abnormal returns after regulation is enacted bythe government.