Information asymmetry and risk factors for stock returns in a post-communist transition economy: Empirical proof of the inefficiency of the Romanian stock market

Abstract

The purpose of this study is to investigate various forms of market efficiency on Bucharest stock exchange. Using monthly data for a six years period (2002 to 2008) for 60 companies listed on the Romanian stock market, the study investigated the empirical validity of Fama’s (1970) efficient market hypothesis (EMH) in two directions: first, the relationship between stock returns and company-specific financial ratios is investigated; secondly, the subject of information asymmetry is empirically tested and an answer to the following question is provided: Are foreign investors better informed than the domestic ones and continually achieve higher rates of return on the Romanian stock market? To serve our purpose, a battery of econometric tests is employed. Results document that there are some risk factors that drive Romanian stock returns and also that information seems not to reach all investors equally as stated by EMH. Similar to other small emerging markets, the Romanian capital market seems to be primarily driven by foreign investors, which consistently manage to outperform the overall market. In addition, the time effect is significant on the Romanian market, and the two-way fixed effects model (TWFM) that allows for the intercept to vary both across companies and in time provides the optimum specification for explaining future stock returns on the Bucharest stock exchange. Key words: Market efficiency, information asymmetry, firm-specific factors, panel regressions, Romanian stock market.