Forecasting Stock Market Returns: An Empirical Investigation for United Kingdom

doi:10.7176/ejbm/12-1-03

Abstract

Stock markets play a vital role in the economic development as a transmission mechanism through which savings are mobilized and adequately circulated across various economic sectors with a view to realize comprehensive growth. The current paper aims at identifying those factors that predict the stock market returns. For this purpose, a multivariate panel regression approach is employed. The empirical econometric model of the study is developed at two levels- firm level and macroeconomic level indicators. The annual panel data is constructed for 50 non-financial firms that are listed at London Stock Exchange during the period 2008-2017. We have employed robust Least Square estimation method.The findings showed that among financial performance factors, only net profit margin has significant predicting power for stock market returns. It presented signaling effect of net profit margin that attracts more investments. Moreover, we found that the selected set of macroeconomic factors have significant predicting power for stock market returns. Our paper contributes in the field of corporate finance as point of reference in the literature for the factors that predicts the stock market returns in the context of United Kingdom. In addition, it will eventually attract the attentions of academics, managers, policymakers, and investors. Keywords: Financial performance, Macroeconomic conditions, Stock market returns, Panel regression and Least Squares. JEL Codes: D22, G15 and F52. DOI : 10.7176/EJBM/12-1-03 Publication date: January 31 st 2020

Highlights

European markets have been center of attentions for investors, fund managers and researchers from all over the world
On observing the impact of firms’ financial performance on the stock market returns, we found that only net www.iiste.org profit margin has positive significant impact
This implies that an increase of 1 unit in the net profit margin will raise the stock market returns by almost 1.84%. This is indicative that more profitable firms exhibit higher returns which reflects into their stock prices in the market and increases the stock market value

Summary

Introduction

European markets have been center of attentions for investors, fund managers and researchers from all over the world. CAPM states that asset beta for a firm remains constant over the time This assumption is criticized by Jagannathan and Wang (1996) who argued that the relative risk in the cash flows of firms are likely to vary during different business cycles; and such variations leads to the dependency of the expected returns and betas on the nature and availability of information at a given point in time which varies. CAPM has transformed into multiple factor models that captures the variations in asset returns in response to risk that is measured through its covariance with several factors affecting the stock prices. The findings showed uniform conclusion that CAPM fails to elucidate the cross-sectional variations in average returns

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