India’s Relation with Global Markets
Jimit Sanghvi
A lot of the news about the market talks about the various participants and relation of it with different stock exchanges. The NIFTY 50 Index of National Stock Exchange (NSE), India is driven by many factors. Two of the very important indicators are the stock index of top stock markets and the foreign exchange rates of top currencies because they often explain changes in one market due to other. So it is essential for an investor to study the correlation of Indian Stock Markets with these indicators to take investment decisions. This markdown explains the relationship between Indian Stock Markets i.e. NSE and Global Markets which includes stock indexes and currencies.
Data
Data source: Bloomberg Terminal
Note: A stock index or stock market index is a measurement of a section of the stock market. It is computed from the prices of selected stocks. It is a tool used by investors and financial managers to describe the market and to compare the return on specific investments. All the variable are continuously compounded daily returns or daily log returns as the return of an asset is a complete and scale-free summary of an investment. It can be calculated as; rt = ln(Pt/Pt-1) = ln(Pt) - ln(Pt-1)
The data is from 2011-01-05 to 2018-09-11.
Target Variable:
Nifty: The NIFTY 50 index is National Stock Exchange of India’s benchmark broad based stock market index for the Indian equity market. Full form of NIFTY is National Stock Exchange Fifty.
Explanatory Variables: Total 17, 8 stock indexes and 9 FOREX.
Indexes: SPX: The Standard & Poor’s 500, often abbreviated as the S&P 500, or just the S&P, is an American stock market index based on the market capitalizations of 500 large companies having common stock listed on the NYSE or NASDAQ. The S&P 500 index components and their weightings are determined by S&P Dow Jones Indices.
UKX: The Financial Times Stock Exchange 100 Index, also called the FTSE 100 Index, FTSE 100, FTSE, or, informally, the “Footsie”, is a share index of the 100 companies listed on the London Stock Exchange with the highest market capitalisation. It is seen as a gauge of prosperity for businesses regulated by UK company law.
N100: The Euronext 100 Index is the blue chip index of the pan-European exchange, Euronext NV. It comprises the largest and most liquid stocks traded on Euronext.
SPTSX: The S&P/TSX Composite Index is the benchmark Canadian index, representing roughly 70% of the total market capitalization on the Toronto Stock Exchange (TSX) with about 250 companies included in it.
IBOV: The Bovespa Index best known as Ibovespa is the benchmark index of about 60 stocks that are traded on the B3 (stock exchange), Brazil.
SHCOMP: The SSE Composite Index also known as SSE Index is a stock market index of all stocks that are traded at the Shanghai Stock Exchange. They are also SSE 180, SSE 50 and SSE Mega-Cap Indexes for top 180, 50 and 20 companies respectively.
HangSeng: The Hang Seng Index is a freefloat-adjusted market capitalization-weighted stock market index in Hong Kong. It is used to record and monitor daily changes of the largest companies of the Hong Kong stock market and is the main indicator of the overall market performance in Hong Kong. These 50 constituent companies represent about 58% of the capitalisation of the Hong Kong Stock Exchange.
NKY: The Nikkei 225, more commonly called the Nikkei, the Nikkei index, or the Nikkei Stock Average, is a stock market index for the Tokyo Stock Exchange. It has been calculated daily by the Nihon Keizai Shinbun newspaper since 1950.
FOREX: These are log returns of each FOREX rates in INR i.e. Indian currency called Indian Rupee
USDINR: United States Dollar vr INR
EURINR: Euro currency of the European Union vs INR
CADINR: Canadian Dollar vs INR
HKDINR: Hong Kong Dollar vs INR
JPYINR: Japanese Yen vs INR
CNYINR: Chinese Yuan vs INR
ZARINR: South African Rand vs INR
AUDINR: Australian Dollar vs INR
BRLINR: Brazilian Real vs INR
I have choosen R for the analysis and visualization as it is a statistical tool and it has a powerful library ggplot2 to interactive and complex graphs and visualizations.
Research Questions:
The following research questions have been defined
1. How is the return distribution of NIFTY related to the distribution of other Stock Indexes?
It is important to see the compare the distribution of returns across various stock Exchanges to do the Mean-Variance and the Risk Analysis. This can be a useful tool to make decisions on foreign investment. In this, we see the expected return and the variance of each index and compare it with NIFTY.
For visualization, I have created a density plot using ggplot2 as a Density Plot visualizes the distribution of data over a continuous interval or time period. The color I use is light red for NIFTY index and light blue for another index a combination of a light warm color and a light cool color to easily differentiate between the plots.
## Warning: package 'ggplot2' was built under R version 3.4.4## Index Mean Standard_Deviation Skewness Excess_Kurtosis
## 1 NIFTY 0.033 1.04 -0.19 2.24
## 2 SPX 0.043 0.86 -0.51 6.20
## 3 UKX 0.011 0.95 0.02 4.02
## 4 N100 0.020 1.08 -0.58 6.80
## 5 SPTSX 0.009 0.77 -0.39 4.96
## 6 IBOV 0.005 1.45 -0.03 2.38
## 7 SHCOMP -0.003 1.44 -1.18 9.31
## 8 HangSeng 0.007 1.15 -0.15 3.12
## 9 NKY 0.041 1.25 -0.40 3.78The table above summarizes the mean and Standard Deviation in the percentage of each index. The means are very low. But for comparison, we can say that Indian Stock Markets has better-expected return i.e. 0.033% compared to most of the Stock Exchanges, except US (SPX) and Japan (NKY) which has a return greater than 0.04%. But fairly speaking we cannot say whether the difference between the means is significant or not. For the purpose of future analysis, I will perform a statistical test like t-test to determine the significance.
Note: The Skewness and Excess Kurtosis are not in percentage.
From the skewness, we can say that the distributions are fairly symmetric as the values are very close to zero, except for SHCOMP which is slightly left-skewed.
From the above plot, we can say that Nifty has more variability (volatility) compared to S&P500. But, the S&P 500 has a greater peak compared to Nifty. That can be verified from the numerical values from the table which clearly describes the same phenomenon (refer to the standard deviation and the excess kurtosis of the table for the respective index). Thus we can say that the Indian stock market is more volatile at the same time riskier. Probably the reason why US markets are considered a safe haven.
From the above plot, we can say that Nifty has almost the same variability compared to FTSE100. But, the FTSE100 has greater peak compared to Nifty. That can be verified from the numerical values from the table which clearly describes the same phenomenon. Thus we can say that Indian stock market shows similar volatility, but the Indian Stock Market is riskier compared to the UK market.
From the above plot, we can say that Nifty has almost the same variability compared to Euronext 100. But, the Euronext 100 has a greater peak compared to Nifty. That can be verified from the numerical values from the table which clearly describes the same phenomenon. Thus we can say that Indian stock market shows similar volatility, but the Indian Stock Market is riskier compared to the European market.
From the above plot, we can say that Nifty has more variability compared to S&P/TSX Composite. At the same time, the S&P/TSX Composite has a greater peak compared to Nifty. That can be verified from the numerical values from the table which clearly describes the same phenomenon. Thus we can say that Indian stock market shows more volatility and is riskier compared to Canadian Stock market.
From the above plot, we can say that Nifty has less variability compared to IBOVESPA. But, the IBOVESPA has lesser peak compared to Nifty. But the numerical values show almost similar excess kurtosis. This can be investigated for future studies. Thus we can say that Indian stock market shows less volatility, but the Indian Stock Market and Brazilian Stock market have similar risk profile.
From the above plot, we can say that Nifty has slightly less variability compared to SHCOMP. But, the SHCOMP has greater peak compared to Nifty. That can be verified from the numerical values from the table which clearly describes the same phenomenon. Thus we can say that Indian stock market shows less volatility, but the Indian Stock Market is riskier compared to the Chinese market.
From the above plot, we can say that Nifty has almost the same variability compared to Hang Seng. But, the Hang Seng has slightly greater peak compared to Nifty. That can be verified from the numerical values from the table which clearly describes the same phenomenon. Thus we can say that Indian stock market shows similar volatility, but the Indian Stock Market is slightly riskier compared to the Hong Kong market.
From the above plot, we can say that Nifty has almost the same variability compared to Nikkei 225. But, the Nikkei 225 has almost same peak compared to Nifty. That can be verified from the numerical values from the table which somewhat describes the same phenomenon. Thus we can say that Indian stock market shows similar volatility and Indian Stock Market are almost equally risky compared to the Japanese market.
2. Which Stock Market is most/ least correlated to Indian Stock Market?
Correlation refers to the degree of relationship (or dependency) between two variables. It is an important tool to compare how strong is one stock market related to another stock market.
For visualization, I have created a correlation plot using corrplot. The color I use is blue for positive correlation which gets lighter as it approaches zero and red for negative correlation which again gets lighter as it approaches zero. I used number method for the plot so that anyone can read out the exact value.
Note: Some of the values which are almost approaching zero or are equal to zero cannot be seen in the plot. That indicates that there is no relation between the two variables
## Warning: package 'corrplot' was built under R version 3.4.4## corrplot 0.84 loaded
From the above plot, we can say that the Hang Seng Index is most correlated with Nifty i.e. 0.49. S&P 500 and Euronext 100 are also very close to Hang Seng i.e. 0.47. Thus, Hang Seng, S&P 500, and Euronext 100 can be the most important indicators of the Indian Stock Market. China’s index SHCOMP has least i.e. 0.19, that contradicts the fact that China is the biggest importer in India. That may be due to the reason that the Chinese Stock Exchange is not that open to foreign investment (the rules and regulations are strict).
3. Which Currency is most/ least correlated to Indian Stock Market?
Let us see the correlation between FOREX returns using corrplot.
As we see in the plot, there is a mostly negative correlation between Nifty and the FOREX returns. US Dollar has the most correlation i.e. -0.45. Another correlation seems very low. Canadian Dollar, Brazilian Real, and Australian Dollar showing almost no correlation.
Conclusion:
I used density plots to visualize the distribution of Nifty Returns with other Stock Returns. I used a combination of light cool and light warm color to easily visualize the overlapping between two distributions.
I used the correlation plot to visualize the correlation between Nifty and other variables where the shade of red indicated negative correlation, the shade of blue indicated positive correlation and white indicating no correlation. I used number method for the plot so that the interpretation of correlation becomes easy.
From the analysis, we can conclude that the Indian Stock Market is volatile and risky compared to most of the Stock Markets. This may be due to fact that Indian Market is an emerging market and most of the other markets were from developed economies.
Apart from that, Hang Seng Index of Hong Kong Stock Exchange, S&P 500 of US, and Euronext 100 of Europe showed the most positive correlation. So, these indicators are must watch before taking any investment decision. Also, US Dollar showed the most negative correlation. So, an investor must watch USDINR prices to assess the direction of the Indian Stock Market.