The Impact Of Macroeconomic Indicators

Published Date: 02 Nov 2017

LOGO7

BACHELOR OF BUSINESS ADMINISTRATION

(HONS) FINANCE

FACULTY OF BUSINESS MANAGEMENT

MARA UNIVERSITY OF TECHNOLOGY

JOHOR

"DECLARATION OF ORIGINAL WORK"

I, FAMIZA FARHANI BINTI MOHD FADZIL, (I/C Number: 890926-14-6300)

Hereby, declare that,

• This work has not previously been accepted in substance for any degree, locally or overseas and not being concurrently submitted for this degree or any other degrees.

• This project paper is the result of my independent work and investigation, except where otherwise stated.

• All verbatim extracts have been distinguished by quotation marks and sources of my information have been specifically acknowledged.

Signature: Date:

ACKNOWLEDGEMENT

Assalamualaikum W.B.T,

Alhamdulillah, I would like to thank the people who directly and indirectly involved in getting this assignment done. Of course all of the hard work and effort cannot be done without Allah’s permission. I am grateful because I able to finish the assignment that had been given the period range. Not only that, I am really glad for having such a handy lecturer, Prof Madya Noor Izah Bt Ismail for guiding me in order to finish this assignment. Like I mentioned before, the indirect person who involved in getting this assignment done also must be thankful for. Thus, this includes all the Faculty of Business Management’s lecturer for lending their advice.

For my family who give support no matter how hard I struggle to get this work done. Friends are the closest person to me that keeps on giving advice on what I should do and should not. What I try to say is that, for the entire hard situation I am and in the future, all of these people will always have my back no matter what happens. This is simply because they know who I am and my capability of getting things settled.

TABLE OF CONTENTS

ABSTRACT

The aim of this paper is to examine the impact of key macroeconomic indicators including interest rates, inflation rates and exchange rates towards Kuala Lumpur Stock Exchange (KLSE) using the quarterly time series data for the period between first quarter of the year 2000 and last quarter of the year 2011. From the data gathered from the Data Stream and World Data Bank between the periods of 2000-2011, E-Views will be used to analyze the impact of key macroeconomic indicators towards KLSE. Base Lending Rate (BLR) (as a measure of interest rates), Consumer Price Index (CPI) (as a measure of inflation), industrial production, money supply (M2), export, import and exchange rates will be use as macroeconomic variables. Regression analysis is carried out using E-Views to conclude whether if the variable is significance towards KLSE. It is expects that the Base Lending Rate (BLR), Consumer Price Index (CPI), industrial production, money supply (M2), export, import and exchange rates to have a significant impact towards KLSE. As a prediction, the capital markets indices are deem to depend upon the macroeconomic variables. There are many limitations to get this paper done including availability of data and cost involve. The significant of this paper is considered as an aid to help to a deep understanding regarding the impact of macroeconomic indicators on Kuala Lumpur Stock Exchange (KLSE).

CHAPTER 1

INTRODUCTION

INTRODUCTION

In this chapter, this paper will be discussed on the nine major sub-topics including the introduction itself, background of the study, problem statement, research question, research objectives, significance of the study, limitation, definition of terms and summary.

Literally, the background of the study will expound further about the topic that had been chosen. It gives a clear view of the Kuala Lumpur Stock Exchange (KLSE) for readers to get some ideas of what will be discussed in this paper. The problem statements on the other hand try to figure out the macroeconomic indicators which will affect KLSE. As the research question derived from the problem statement, it basically answer the research questions and provides the answer in the research objectives. The significant of the study is to increase the readers understanding about the impact of the macroeconomic indicators on KLSE. Some limitation that occurred throughout the research is lack of, accuracy and cost involved in gathering the data. Besides that, the definition of term will explain further about the specific words that are not familiar to the readers. Lastly, the summary included will summarize all the relevant information pertaining to the sub-topic that had been discussed in Chapter 1.

Stock exchange is considered one of the important components in the modern economy. Basically, the stock exchange is closely related to the macroeconomic variables that exist in a particular place. Meaning to say that, different results will be occur base on different geographical area which consist of stock exchange and macroeconomic variables. The results on the other hand can be handy among academicians and practitioners. However, to make sure it can be very handy to those people, it is essential that the stock exchange have a significant relationship with the macroeconomics variables otherwise it will be meaningless. Now days, capital market became a key element of modern market based economy (Mohammad et al., 2009). According to the Efficient-Market Hypothesis (EMH) theory, an efficient capital market is one in which stock prices change rapidly as the new information becomes available (Maysami et al., 2004, cited by Pal and Mittal, 2011). With the advancement of today’s technology, the information describing the macroeconomic variables is readily assessable and will ease the academicians and practitioners. Thus, this paper aim to examine the impact of key macroeconomic indicators including interest rates, inflation rates, industrial production, money supply (M2), export, import and exchange rates towards KLSE.

BACKGROUND OF THE STUDY

Kuala Lumpur Stock Exchange (KLSE) started in June 1930 when the association of Singapore Stockbrokers’ had been formed as an official association that dealt with securities in Malaya. Later in 1937, the Association was registered as the Malayan Stockbrokers’ Association. The Malayan Stock Exchange was later set up in May 1960 and thereafter it is a start up point of the public trading of shares. Total of four combined with three new stockbrokers had been gathered at the Central Bank to make transactions of share trading. Then the Stock Exchange of Malaysia was formed in 1964. By 1969, almost 600 million shares of trading volume had risen, which it is more than triple the annual trading volume three years previously. In 1994, the name had been changed to Kuala Lumpur Stock Exchange and is it crucial to note that Malaysian companies continued to be listed and actively traded.

The increment from 679.64 (index) in Quarter 4, 2000 to 1530.73 (index) in Quarter 4, 2011 from the data proved that KLSE functions becomes important from the day it was established. The performance of KLSE colors the future economic growth in many different ways parallel to the macroeconomic variables that will be use. Thus, this research paper will focus on the impact of macroeconomic variables towards the KLSE. Normally, out of seven macroeconomic variables, prior researcher will only focused on a few variables. However, this paper will take into consideration of all seven macroeconomic variables. The secondary data were collected from the Data Stream. A test will be conduct to see whether the independent variables are significant to the dependent variables. Basically, the purpose of this study is extended to the prior research in the area to further understand the impact of macroeconomics variables toward the KLSE.

PROBLEM STATEMENT

Mentioned before, the stock exchange is closely related to the macroeconomic variables that exist in a particular place. Hence markets react promptly to any news, at times even any forms of instability including but not limited to escalating political tensions or even war rumors of war, change in regulatory environment (business), deemed as negative by the business (investing) community and interest rate fluctuations in general performance of the economy (Moneybiz, 2008, cited by Pal and Mittal 2011). Stated early in this chapter that, different results will be occur base on different geographical area which consist of stock exchange and macroeconomic variables. As mentioned by (Fama, 1981, cited by Tripathy, 2011) stated that a positive relation between stock returns and real economic activity in US and Japanese stock markets but the same relation is not found in European and South Asian markets. Lastly, according to Fama (1970) cited by Büyükşalvarcı (2010), a market is efficient if prices rationally, fully, and instantaneously reflect all relevant available information and no profit opportunities are left unexplained. In an efficient market, the market should only react and take into consideration the new information and not the past information in predicting the future.

RESEARCH QUESTION

Different macroeconomic variables will tend to give a different impact towards KLSE. Most of prior researchers only choose a few of the macroeconomic variable to be tested. However, bear in mind that, it is possible and crucial to include all of the macroeconomic variables so it can give a clear view about the overall impact towards KLSE. The macroeconomic variables are explored in order to know what major variables among them are. Thus, this paper contributes to the literature by inspecting this issue in an emerging Malaysian economy.

There are several of research question that will be use in this research, which are:

RQ1: What are the macroeconomic variables that influence Kuala Lumpur Stock Exchange (KLSE)?

RQ2: What are the relationship between the macroeconomic variables and Kuala Lumpur Stock Exchange (KLSE)?

RESEARCH OBJECTIVES

The main objectives of this research are as follows:

RO1: To determine the macroeconomics variables that influences Kuala Lumpur Stock Exchange (KLSE)?

RO2: To examine the relationship between the macroeconomic variables and Kuala Lumpur Stock Exchange (KLSE)?

SIGNIFICANCE OF STUDY

The conclusion of this study will be able to give an indication whether that there is an available opportunities to make profit from the inefficiencies of the stock market mechanisms in channeling of information that exist between the macroeconomic and stock market. On the other hand, further research of the impact of macroeconomic variables including interest rates, inflation rates, industrial production, money supply (M2), export, import and exchange rates on KSLE will aid investor to forecast the future market change. This is simply because the macroeconomic variable tends to be volatile and not fixed over a period of time. On the other hand, policymakers can base on the analysis of these correlations to formulate monetary policies in order to sufficiently and timely adjust (Hussainey and Ngoc, 2009) Malaysian stock market.

LIMITATION

1.6.1 Availability of Data

In order to get a solid and accurate result, the data gathered need to be precise and available for all desire time frame. Unavailability of data for all desired time frame need to be removed and it is considered as invalid data. Hence, the data will serve no purpose for the research. This paper at first gathered an annual time series data from the period 1971-2011. Due to the unavailability of data, a quarter time series data has been gathered range from 2000-2011.

1.6.2 Cost Involved

To ease the process of gathering the data needed, data from data stream is used solely in this research. This is simply because, the data gathered from data stream is considered as precise and accurate compared to the other source of data. Only that, the flipside of using data stream is the travelling cost involved. Since the data stream is only available at a certain place, hence the travelling cost to gather the data need to be considered as a limitation to the research.

DEFINITION OF TERMS

1.7.1 Interest Rate / Base Lending Rate (BLR)

Base Lending Rate (BLR) can be defined as the ceiling interest rates for financial institutions. BLR of commercial banks and finance companies in Malaysia are computed based on the administrative cost, cost of funds from the commercial banks, the funding cost that are based on the 3 month KLIBOR average over the period of one month and adjusted for the cost of SRR (Statutory Reserve Requirement).

1.7.2 Inflation Rate / Consumer Price Index (CPI)

Consumer Price Index (CPI) over time served as a purpose of measuring the percentage change in consumer price experienced by the Malaysian. It can be gathered by comparing, through the time, the cost of goods and services that has been purchased by the consumers. International standard and procedures called Laspeyres formula is used for the purpose of calculation. The index is expressed in terms of 2005 as the base year (2005 = 100) is a composite index.

1.7.3 Industrial Production (IP)

The Index of Industrial Production (IP) in Malaysia was first created taking into consideration of 1968 as the base year (1968 = 100). Only thereafter, the based was change to 1981, 1985, 1988, 1993, 2000 and 2005 as the latest base. The main purpose for the establishment of IP index is to measure over time, the rate of changes that occur in the production of industrial commodities. Thus, it will assist the IP index users in decision making and formulation.

1.7.4 Money Supply (M2)

Money supply as a whole can be defined as an aggregate total of monetary assets those are available in each country as a specific period of time. M1 money supply acts as narrow money. It means that M1 consist of coins, notes and other assets that are easily converted into cash. In an addition to that, M2 money supply includes M1 combined with short term deposits in banks. Lastly, M3 money supply includes M2 combined with long term deposits in banks and other deposits. M2 and M3 money supply can be called as broad money.

1.7.5 Export

Export can best define as a transaction that involves a change of ownership between two or more country which transfer or carried out the goods and services. On the other hand, it can also be define as a transfer of goods and services by land, sea, air or any other medium of exchange that can enable the transaction to be done. As long as the goods and services can be transferred to the other party outside Malaysia, it is considered as export.

1.7.6 Import

Import on the other hand have the same meaning with export does, which is a transaction that involve a change of ownership between two or more country which transfer or carried in the goods and services. A reverse meaning of export is that, import is the transaction occurs from outside to inside of Malaysia. Like export, import can also be define as a transfer of goods and services by land, sea, air or any other medium of exchange that can enable the transaction to be done.

1.7.7 Exchange Rate

Exchange rate can best define as the rate on which one currency may be converted to another currency. Exchange rate is mostly used by the people who intend to travel from their country to another. On the other hand, exchange rate is widely use by the speculators, hedgers and arbitrageurs. There are a pile of factors that will affect the exchange rates including interest rates and inflation rates. Exchange rate on the other hand can also be called as foreign exchange rate (FOREX).

SUMMARY

Going through this chapter would now make readers to see more clearly of what is going to be discussed in the next chapter. Readers must now able to know what the function of KLSE is and the possible macroeconomic variable that might impact to Malaysian stock exchange. Based on prior researcher, the problem statement show of why there is a need to make a further research about this topic in details which it can be seen from the development of research objectives. Hence, the next chapter of this research paper will explain more in details in order to get more understanding on what is the research is all about.

CHAPTER 2

LITERATURE REVIEW

INTRODUCTION

Prior researchers have tried a variety of dynamic models to establish the relationship between their own country market indices and macroeconomic variables. However, this paper only focused on the Malaysian indices. This chapter on the other hand will focused more on the literature review. Literature review in dept is an evaluative description of information found in the literature itself which it is linked to the area of the study. It gives an aid to the readers and researcher of what knowledge and ideas will be gained. In this paper, the literature review will expound further about KLSE. Furthermore, this chapter will give an extra clarification on the macroeconomic variables impact on KLSE including the interest rates, inflation rates, industrial production, money supply (M2), export, import and exchange rates. Each and every macroeconomic variable have a different impact towards KLSE. Thus, it is considered salient for the readers and researchers to fully understand this chapter to give a clear view of what is going to be discussed in the next chapter.

KLSE indices have been investigated based on prior researcher relation to the macroeconomic variables represented by interest rates, inflation rates, industrial production, money supply (M2), export, import and exchange rates.

2.1 KUALA LUMPUR STOCK EXCHANGES (KLSE)

Numerous numbers of researches had been done across different countries to examine the impacts of macroeconomic variables on stock market. In this paper, KLSE is used as it is the Malaysian stock market. The changes of KLSE are highly related to the volatility of the macroeconomic variables. Even a slight change to the new information would lead to changes of KLSE future prospects. Previous researcher on the other hand put forth that stock prices have to include all important information which is widely easy to obtain. These situations apply to all stock market across the country including KLSE. As the stock prices accurately reflect the underlying fundamentals, they should be employed as leading indicators of future economic activities (Pal and Mittal, 2011). Furthermore, these rightly so called indicator "stock market" serves as a movement and sectioning savings among competing uses which are essential to the growth and working productivity to save money and effort of a nation economy (Alilie, 1984 cited by Onasanya, Olanrewaju and Ayoola, 2012) through organization of stock of supply.

2.2 INTEREST RATE / BASE LENDING RATE (BLR)

Interest rate can be said has a strong relationship with the other macroeconomic variables. In this paper, Base Lending Rate (BLR) is used as a measure of interest rates. The negative relationship has been found by Hussainey and Ngoc (2009), Onasanya, Olanrewaju and Ayoola (2012), Pal and Mittal (2011) and Büyükşalvarcı (2010) while a positive relationship was found by Ahmed (2008), Tripathy (2011), Rjoub, Tursoy and Gunsel (2009) and Pal and Mittal (2011). According to Büyükşalvarcı (2010), interest rate represents alternative investment opportunities. Investors will tend to invest less in stock if the interest rate is increase and this will result to the stock price to fall. As a flipside, the decrease in interest rate would reduce the borrowing costs. On the other hand, it encourages firms to deal with expansion of their business with the belief in generating more expected returns in the future. Market mechanism do not affect the interest rate, rather it is determined by the government to where it is place. Hence, changing interest rate is one of the crucial macroeconomic variable tools that can be used to predict the stock market fluctuation.In addition to that, Pal and Mittal (2011) parallel to Chen, Roll and Ross (1986) cited by Büyükşalvarcı (2010) stated that, there are many other macroeconomic factors that affect the fluctuation in BSE Sensex besides interest rate.

2.3 INFLATION RATE / CONSUMER PRICE INDEX (CPI)

Inflation affects savings and investment decisions through different channels (Mashayekh, Moradkhani and Jafari, 2011). In this paper, Consumer Price Index (CPI) will be used as a measure of inflation rate.It also gives an aid to the readers and researchers’ knowledge that the application of inflation rates for stock indices means that an increase in inflation rate raises nominal stock return. The negative relationship has been found by Onasanya, Olanrewaju and Ayoola (2012) and Büyükşalvarcı (2010) while a positive relationship was found by Hussainey and Ngoc (2009), Tripathy (2011) Rjoub, Tursoy and Gunsel (2009), Adam and Tweneboah (2008) and Yogaswari, Nugroho and Astuti (2012). Mentioned by Adam and Tweneboah (2008), an increase in the rate of inflation is likely to lead to economic tightening policies, which in turn increases the nominal risk-free rate and hence raises the discount rate in the valuation model. As can be seen in the previous paragraph, the existence of positive and negative relationship is simply because some of the prior researchers exert that the inflation that affects the stock price is different based on the company’s nature of business.

2.4 INDUSTRIAL PRODUCTION

Besides interest rates, some prior researcher has stated that industrial productions are the other major determinants of stock return. The industrial production is defined as an economic report that measures changes in output for the industrial sector of the economy (Wikipedia, 2008, cited by Hussainey and Ngoc, 2009). The negative relationship has been found by Büyükşalvarcı (2010) put forth that 47.11% variability of the stock price index return can be explained by the consumer price index (CPI), money market interest rate (MIR), gold price (GLD), industrial production index (IPI), oil price (OIL), foreign exchange rate (FEX), money supply (M2). The same relationship was found by another prior researcher Büyükşalvarcı, (2010) and Ahmed (2008). A positive relationship was found by Hussainey and Ngoc (2009) mentioned that the coefficient estimate on the industrial production variable is 0.371 and it is significant at the 10 percent level. The same result was gained by Muhammad et. al. (2009). A positive relationship can be gain based on the fact that an increment in the industrial sector will eventually raises the future cash flow and hence increase the future dividend which will attract the investors to buy more shares at a higher price.

2.5 MONEY SUPPLY (M2)

M2 money supply includes M1 combined with short term deposits in banks. Certain of the prior researcher have stated money supply is one of the macroeconomic variables that gave an impact toward stock exchange for one country. A fluctuation in money supply would lead to the uncertainty of inflation and interest rate thus will have a consequence on the stock market as a whole. According to Rjoub, Tursoy and Gunsel (2009), increased nominal money supply leads to portfolio rebalancing towards other real assets. A negative relationship was found by Ahmed (2008), while positive relationship was found by Rjoub, Tursoy and Gunsel (2009), Mohammad et al. (2009), Büyükşalvarcı (2010). Based on Büyükşalvarcı (2010), the values of adjusted R Square (0.471049) suggest that model serves its purpose in determining the effect of macroeconomic variables on stock price index. From the regression analysis made, it showed that 52.90% of the impact is from the other macroeconomic variables than what is mentioned in the research. All in all, it can be said that a study made between money supply and stock prices is to put forth the belief that a change in money supply would directly related to the portfolio changes, and their indirect effect through their effect on real economic activity, which in turn postulated to be the fundamental determinants of stock prices (Ahmed, 2008).

2.6 EXPORT

2.7 IMPORT

2.8 EXCHANGE RATE

In this study the market rate at the end of the month of US Dollars, Euro, Yen, Pound and Singapore Dollars/MY Ringgit exchange rate is used. Mentioned by Tripathy (2011), he exert that the change in exchange rate will affects the overseas operational performances of firm which will affect its share price. So, it is important to note that exchange rate is one of the macroeconomic variables that have an impact on stock market that is related to a country’s trade imbalance and international trade. The negative relationship has been found by Onasanya, Olanrewaju and Ayoola (2012), Tursoy and Gunsel (2009) and Büyükşalvarcı (2010) while a positive relationship was found by Pal and Mittal (2011), Tripathy (2011), Mohammad et al. (2009). The fluctuations in exchange rate make a country vulnerable to transaction risk, thereby increasing or decreasing the future payables/receivables (Pal and Mittal, 2011). Another prior researcher also stated that the exchange rate volatility will eventually affect the actual output of a certain country hence will affects the current cash flow of a company which is linked to the stock price movements. Depreciation on the exchange rate would cause the stock price to decline due to the expectation of inflation to take place. Inflation as mentioned at the early of this chapter is seen to have a majority of negative relationship to the stock market as it can lead to economic to tighten up their policies and limit the consumer spending.

2.9 SUMMARY

In this chapter all of the macroeconomic variables were reviewed based on their impact towards the stock market in Malaysia. It includes the Kuala Lumpur Stock Exchange (KLSE), interest rate, inflation rate, industrial production, money supply (M2), export, import and exchange rate.

CHAPTER 3

RESEARCH METHODOLOGY

3.0 INTRODUCTION

Research methodology can be said as the base or guideline that will ease the researchers or the readers in the data collection method and analysis. On the other hand, it can also be defined as the description of technique used to achieve the objectives of the study and it is considered as an important chapter in the research. In this chapter, it will focused more towards the methodology that will be used for the research purpose. It consists of eight basic elements which are data collection, source of data, variables, research design, research framework, data analysis, hypotheses statement and conclusion. The data for this study was gained from the secondary data in the Data Stream, take into account are KLSE (Index) as dependent variables while Base Lending Rate (%), Consumer Price Index (Index), Industrial Production (Index), M2 Money Supply (MYR Mil), Export (MYR Mil), Import (MYR Mil) and Exchange Rate (MYR – US $, Euro E, Yen Y, Pound £ and Singapore Dollar S$) as independent variables.

3.1 DATA COLLECTION

In this study, all the data used in this study was collected from the secondary data. Secondary data was gathered and recorded by the prior researchers’ which it is used for the purpose of the research related to their interest. The secondary data usually is historical in nature and it is already been assembled which it is really a time and cost saver. A quarterly time series data was collected from the range of first quarter of 2000 to last quarter of 2011. The brief concept, class and indicator for both dependent and independent variables used are presented in the Table 1 below.

Table 1: Concept, class and indicator of data

Variables

Concept

Class

Indicator

Source

KLCI

KLSE

Equity Market Related

Index

Data Stream

BLR

Interest Rate

Interest Rate

Percentage (%)

Data Stream

CPI

Inflation Rate

Consumer Retail/Prices

Index

Data Stream

IP

Industrial Production

Industrial Production Indices

Index

Data Stream

M2

Money Supply

Money Supply

MYR Mil

Data Stream

Export

Export

External Trade

MYR Mil

Data Stream

Import

Import

External Trade

MYR Mil

Data Stream

EXR (MYR – US $)

Exchange Rate

Exchange Rate

MYR

Data Stream

EXR (MYR – Euro)

Exchange Rate

Exchange Rate

MYR

Data Stream

EXR (MYR – Yen)

Exchange Rate

Exchange Rate

MYR

Data Stream

EXR (MYR – Pound £)

Exchange Rate

Exchange Rate

MYR

Data Stream

EXR (MYR – S $)

Exchange Rate

Exchange Rate

MYR

Data Stream

3.2 SOURCE OF DATA

Mentioned earlier in this chapter, the data gathered for the purpose of this study was from the Data Stream. At first, annual data from the interval of 1987-2011 was collected. However, to make sure the data collected to be accurate and precise; the data which is unavailable have to be eliminated. Thus, this result the data to be collected based on the quarter time series data between the ranges of 2000-2011. The sources of the data are as follows:

3.2.1 Data Stream

Data Stream is one of the facilities that had been provided by the university in order to make data collection much easier. The usage of the data stream is considered useful provided that the researchers solely use secondary data to perform the research. Data Stream also offered a wide variety of data including KLSE, Base Lending Rate, Consumer Production Index, Industrial Production, M2 Money Supply, Export, Import and Exchange Rate.

3.2.2 Website

As widely known that website can provide a bulk amount of data. The usage of website makes the research to be done in much easier way. It covers all scope of information to be use for the supporting purpose of this research. Since, website offer an enormous amount of information, researchers must know which information is reliable to be use.

3.2.3 Journals

In this paper, journals have been used in order to increase the level of knowledge of the researchers. It is very handful for the purpose of writing the literature review in chapter 2. The journal used was collected from various sources such as Journal of Financial Economics, Journal of Risk Finance, Journal of Finance & Accounting and Journal of Economics and Sustainable Development.

3.2.4 Textbooks

Textbooks were used to understand in more details of the specific terms and further information that had been or will be used in this study.

3.3 VARIABLES

3.3.1 Dependent Variable

Dependent variable is the variable of primary interest to the researcher. The dependent variables are the variables that measure the effect of the independent variables. It is also the outcome of the changes brought about by changes in independent variables. The dependent variable used in this paper is Kuala Lumpur Stock Exchange (KLSE).

3.3.2 Independent Variable

Independent variable is one that influences the dependent variables in either a positive or negative way. That is, when the independent variables present, the dependent variable is also present, and with each unit of increase in the dependent variables, there will also an increase or decrease in the dependent variable. In other words, the variance in the dependent is accounted for by the independent variable. The independent variables used in this paper are KLSE, Base Lending Rate, Consumer Price Index, Industrial Production, M2 Money Supply, Export, Import and Exchange Rate.

Both variables were used in the study as to put forth the purpose of this study which is to examine the impact of key macroeconomic indicators towards Kuala Lumpur Stock Exchange (KLSE).

3.4 RESEARCH DESIGN

3.4.1 Purpose of the Study

The aim of this paper is to examine the impact of key macroeconomic indicators including interest rates, inflation rates, industrial production, money supply (M2), export, import and exchange rates towards KLSE. Therefore, this research has a descriptive purpose as descriptive means a research designed to describe or summarize information about a population or sample.

3.4.2 Type of Investigation

This investigation is categorized under the causal relationship investigation because the research made is to define the impact of macroeconomic indicators including interest rates, inflation rates, industrial production, money supply (M2), export, import and exchange rates on KLSE.

3.4.3 Extend of Researcher Interference

The study is conducted in the natural environment of the organization with minimum interference by the researcher with the normal flow of work.

3.4.4 Study Setting

The study setting in this research is non-contrived as there are no intrusions surrounding the study environment.

3.4.5 Time Horizon

This research is based on cross sectional which means the data is gathered only once in order to meet its research objectives.

3.5 RESEARCH FRAMEWORK

Figure 1: Schematic Diagram (Relationship Diagram)

Exchange Rate

Base Lending Rate

Consumer Price Index

Industrial Production

M2 Money Supply

Export

Import

Kuala Lumpur Stock Exchange (KLSE)

Independent Variables

Dependent Variable

Based on the schematic diagram above, it can be seen that Kuala Lumpur Stock Exchange (dependent variable) depends upon Base Lending Rate, Consumer Price Index, Industrial Production, M2 Money Supply, Export, Import and Exchange Rate (independent variables).

3.6 DATA ANALYSIS

In this study, Multiple Linear Regression will be use to estimate the relationships among variables which are KLSE, Base Lending Rate, Consumer Price Index, Industrial Production, M2 Money Supply, Export, Import and Exchange Rate. On the other hand, multiple linear regressions is said to be used when the focus of the study is to determine the relationship between a dependent variable and one or multiple independent variables. More detail, it gave an aid to the researcher to understand how a slight change in one independent variable can give an impact of increase or decrease in dependent variable. As general, the theoretical model used in this study is as follows:

Yt= β 0 + β 1X1t + β 2X2t + … + β kXkt + εt

where : Yt : dependent variables

X1t : independent variables

β 1 : regression coefficients

εt : error terms

3.6.1 Unit Root Test

Time series analysis must be based on stationary data series for drawing useful inferences (Ahmed, 2008). The unit root test was conducted before an analysis of co-integration. Besides, it is conducted to conclude whether the variables are stationary or the opposite. Stationary is defined as mean and variance of the data is zero and constant respectively (Muhammad et. al., 2009). Hence, Augmented Dickey-Fuller (ADF) test including β 1, regression coefficients were used as an extended version of Dickey-Fuller (DF) test. ADF on the other hand is the basic test used to analyze the relationship between dependent and independent variables in the long run. The unit root hypothesis of the ADF need to be rejected only when the result is negative.

3.6.2 P-Value Approach (p-value < α)

P-value approach acts as a threshold in a hypothesis testing. P-value needs to be less than the level of significance than the determined value. The level of significance used in this paper is 5%. Hence, whatever value that is less than the level of significance mentioned needs to be rejected. This will result the researcher to reject the null hypothesis.

3.6.3 Goodness-of-Fit

(i) The Coefficient of Determination

Its measures the total of variation of (Y) is explained by the total of variation of (X).

(ii) The Adjusted R2

Its measures the total of variation of (Y) is explained by the total of variation of (X), adjusted degree of freedom.

3.6.4 Heteroskedasticity

Heteroskedascity means that the variance of an error term is not constant. As additional, an existence of heteroskedastic in the error terms will not be able to confirm that the estimators used are the best linear unbiased estimators (BLUE). Meaning to say that, the existence of heteroskedacity unable the researcher to proceed further as there is no valid t-statistic and f-statistic result achieve. The value of heteroskedasticity will increase parallel to the increase of independent variables. In order for the researcher to detect the existence of heterodesticity is by using the Breusch-Godfrey test. Breusch-Godfrey test enables the researcher to automatically gain the result of the Observation*R2 and Prob. Chi-Square.

3.6.5 Multicolinearity

Multicollinearity can be define when two or more variables in the model are correlated and provide redundant information about the response. Meaning to say that, it is difficult for the researcher to determine which independent variables are likely to affect dependent variable most. Perfect multicollinearity can be gained when the correlation between any two variables is equal to 1 or -1. However, it is impossible for the researcher to have a perfect multicollinearity data set in practice. Rule of thumb of multicollinearity put forth that, the problem will primarily occurs when the dependent variables are highly correlated between each other rather than with dependent variables. To make sure that there will be no multicollinearity occurs; Variance Inflation Factor (VIF) is use in the research.

3.7 HYPOTHESES STATEMENT

Hypothesis statement can be defined as unproven statement of proposition about a factor of phenomenon that is of interest to the researcher. A good hypothesis statement should be able to fulfill three conditions which are adequacy for its purpose, testable and better than its rivals. Hypothesis act as an uncertain estimation on the projected result depends on the current facts or data, then only the researcher can decide whether to accept or reject the hypothesis that had been generated. Using the hypothesis, it gave a direction of the study and it can recognize facts and data whether it is related or not.

The elements of hypothesis are Null Hypothesis (H0) and Alternate Hypothesis (H1). H0 expressed as no (significant) relationship between two variables while H1 is a statement expressing a relationship between two variables. At the end of the study, the researcher should decide whether to accept or failed to accept H0. The hypothesis that being tested for this study are as follows:

Hypothesis 1

H0: There are no significant relationship between Base Lending Rate and Kuala Lumpur Stock Exchange (KLSE).

H1: There are significant relationship between Base Lending Rate and Kuala Lumpur Stock Exchange (KLSE).

Hypothesis 2

H0: There are no significant relationship between Consumer Price Index and Kuala Lumpur Stock Exchange (KLSE).

H1: There are significant relationship between Consumer Price Index and Kuala Lumpur Stock Exchange (KLSE).

Hypothesis 3

H0: There are no significant relationship between Industrial Production and Kuala Lumpur Stock Exchange (KLSE).

H1: There are significant relationship between Industrial Production and Kuala Lumpur Stock Exchange (KLSE).

Hypothesis 4

H0: There are no significant relationship between M2 Money Supply and Kuala Lumpur Stock Exchange (KLSE).

H1: There are significant relationship between M2 Money Supply and Kuala Lumpur Stock Exchange (KLSE).

Hypothesis 5

H0: There are no significant relationship between Export and Kuala Lumpur Stock Exchange (KLSE).

H1: There are significant relationship between Export and Kuala Lumpur Stock Exchange (KLSE).

Hypothesis 6

H0: There are no significant relationship between Import and Kuala Lumpur Stock Exchange (KLSE).

H1: There are significant relationship between Import and Kuala Lumpur Stock Exchange (KLSE).

Hypothesis 7

H0: There are no significant relationship between Exchange Rate and Kuala Lumpur Stock Exchange (KLSE).

H1: There are significant relationship between Exchange Rate and Kuala Lumpur Stock Exchange (KLSE).

3.8 SUMMARY

At the end of this chapter, it can be able to develop a set of hypotheses to be tested whether the key macroeconomic indicators including interest rates, inflation rates, industrial production, money supply (M2), export, import and exchange rates give and impact towards KLSE. On the other hand, it also enables to establish the link among those two dependent and independent and evolve a theoretical framework. To sum up, it can be decided for the type of analysis required, purpose of the study, study setting, extent of researcher interference and time horizon of the study.