Global Financial Crisis and the Indian Stock Market

Abstract

Global financial crisis was epitomized initially by a big downturn in stock prices in major stock markets of the world. Soon, the falling stock prices transmitted the shock waves generated by the crisis across all other countries. Falling stock prices shaved off a big chunk of the financial wealth of stock holders. In this chapter, the main objective is to model the behaviour of stock prices of a panel of 2075 Indian companies during the worst period of the crisis and identify the main determinants of the change in the stock prices. We begin by depicting world stock market volatility during 2006–2009, using 30-day moving average of annualized market volatility. The data show that stock market volatility during 2006–2009 was almost identical across three major regions of the world market which shows pervasiveness of the crisis due to integration of the world’s stock markets. Granger causality test of S&P 500 and BSE Sensex show that developments in the US stock markets “significantly” influence stock prices in India. How do stock prices behave in India during the financial crisis? Here, we point out that since efficient set theorem of portfolio selection theory will not hold in its full form during a stock market crisis, we lay down the risk-enhancing features and risk-mitigating features of a company. These features are used to specify the empirical model for change in stock prices in India during the worst period of the crisis. Prowess data are used for empirical estimation. The determinants of change in stock prices are found as share of FIIs in company’s equity, export intensity, β of the company, firm size and ratio of book to market value.