IJFM Journal

International Journal of Financial Management
Journal tends to bring about a revolution in the financial research through its unparalleled quality, undaunted approach and panoptic coverage of the research efforts being undertaken all around the globe. The journal intends to provide the super ordinate podium to the researchers to share their findings with the global community after having crossed the quality checks and legitimacy criteria, which in no way promise to be liberal.
Chief Editor
Dr. Balwinder Singh, Associate Professor, Department of Commerce & Business Management, Guru Nanak Dev University, Amritsar, India
Associate Editors
Dr. Revti Raman, Victoria University of Wellington, New Zealand Dr. Mahesh Joshi, RMIT University, Melbourne, Australia Dr. Kapil Gupta, Professor, Management Department, Punjab Technical University, Kapurthala
Editorial Coordinator
Ms. Rekha Handa, Assistant Professor, Department of Commerce & Business Management, Guru Nanak Dev University, Amritsar, India
Editorial Advisory Board

Dr. C.P.Gupta, Professor, Dept. of Commerce, Delhi University, New Delhi, India Dr. Ravinder Vinayak, Professor, Maharishi Dayanand University, Rohtak, Haryana, India Dr. Sanjay Rastogi, Indian Institute of Foreign Trade, New Delhi, India Dr. H. Venkateshwarlu, Professor, Osmania University, Hyderabad, A.P., India Dr. Bala Balachandran, La trobe University, Australia Dr. Golaka C Nath, Vice President, Clearing Corporation of India, Mumbai, India Dr. N. Panchanatham, Prof., Dept. of Business Administration, Annamalai University, Tamil Nadu Dr. Annalisa Prencipe, Universita Bocconi, Milan(Italy) Dr. Bhagwan Khanna, Victoria University of Wellington, New Zealand Samanthala Hettihewa, University of Ballarat, Ballarat
Editorial Review Board

Dr. Ashok Bhardwaj Abbott, Associate Professor, West Virginia University, United States Dr. Sourendra Nath Ghosal, Director, Nicco Financial Services Ltd., Kolkata, India Dr M.R. Vanitha Mani, Director, MBA Dept., SSK College of Engineering & Tech., Coimbatore, India Samuel Gil Martin, Faculty, Universidad Autonoma de San Luis Potos, Mexico Dr. Syed Hussain Ashraf, Senior Professor, Dept. of Commerce, Aligarh Muslim University, India Dr. Sanjay Jayantilal Bhayani, Associate Prof., Saurashtra University, Rajkot, Gujarat, India Mr. Moid U Ahmad, Assistant Professor, Jaipuria Institute of Management, Noida, India Mr. Kushankur Dey, Faculty, Institute of Rural Management, Anand, Gujarat, India Dr. Shafali Nagpal, Director, UGC-Academic Staff College, BPS Mahila Vishwavidhyalaya, Sonepat Dr. Punit Kumar Dwivedi, Assistant Professor, Prestige Institute of Mgt. and Research, Indore, India Prof. Amrit Lal Ghosh, Professor, Department of Business Admn., Assam University, Assam, India Dr. Ritu Gupta, Assistant Professor, Kamla Lohtia S.D. College, Ludhiana, India Prof. S.L. Gupta, Professor, Birla Institute of Technology, Mesra, Ranchi, India Mrs. Maithreye Sunil Holeyachi, Assistant Professor, City college, Bangalore, India Dr Pawan Jain, Assistant Professor, Institute of Management Technology, Nagpur, India Dr. Sudhanshu Joshi, Assistant Professor, School of Management, Doon Univ., Uttrakhand, India Badar Alam Iqbal, Professor, Department of Commerce, A.M.U., Aligarh, India Mrs. Sonal Gupta, Faculty, CMRIT, Bangalore, India Mr Pankaj Varshney, Associate Professor, Apeejay School of Mgt., Dwarka, New Delhi, India Dr Jaideep Gulabrao Jadhav, Associate Professor, MIT School of Telecom Management, Pune, India Dr. Sri kanth, Associate Professor, PES Institute of Technology, Bangalore, India Dr. (Mrs.) Parul Khanna, Associate Professor, Institute of Mgt. & Technology, Faridabad, India Mr. Nitin Kulkarni, Faculty, MET Institute of Management, India Mr. Anandadeep Mandal, Assistant Professor, KIIT School of Management, Orissa, India Ratna Shanker Mishra, Assistant Professor, Banaras Hindu University, Varanasi, India Akhil Mishra, Associate Professor, Faculty Of Commerce, BHU, Varanasi, India Mr. Debabrata Mitra, Faculty, Department of Commerce, Univ. of North, Bengal, Darjeeling, India Dr. Chimun Kumar Nath, Assistant Professor, Dept. of Commerce, Dibrugarh University, India Prof. Nikunjkumar Ramnikbhai Patel, Associate Prof., S.V. Institute of Management, Gujarat, India Mr. Sudhakar T Paul, Assistant Prof., Dept. of MBA, MVJ College of Engineering, Bangalore, India Dr.Raja Ram, Faculty, Kalasalingam University, India Prakash shanmugasundaram, Faculty, Department of MBA, Anna University, Coimbatore, India Prof Subhash Chander Sharma, Professor, Dept of Commerce and Business Mgt., GNDU, Amritsar, Dr Sajeev Surendranath, Senior Lecturer, Institute of Mgt. in Government, Trivandrum, India
Editorial Message
Greetings for the newly dawned year! Hope it lends us umpteen opportunities to learn and align with the dynamic learning environment. The advent of New Year has lent me the privilege to add another volume to the growing glory of our journal. The International Journal of Financial Management having found a strong foothold with readers, contributors and reviewers has taken a befitting leap to its next volume. The joy I experience is the shared credit of not only the journals editorial and reviewing team but also the silent yet strong inputs of our valued critics and suggestion makers. The present issue is a fine blend of seven research papers which could take the coveted place here surpassing the quality barriers raised through our rigorous and regularly updated review procedures. The first paper talks about the application and development hybrid methodology that combines both ARIMA and Artificial neural network model to model and predict the stock market index returns. The paper next in line purportedly is the first exhaustive study of its kind on linkages and the interrelationship between the Asian stock markets and other stock markets during and after the crisis employing sophisticated and procedurally sound analytical techniques like Granger Causality test based on Vector Error Correction Model and Co-Integration It concludes that the linkages between the Asian and the US stock markets are stronger in the post-crisis period. Islamic banking, elimination of gharar, two prominent Islamic banking financing instruments Bay al-Inah and Bay al-Dayn and the legal implications of the presence of gharar on the validity of these contracts is the central thought in the next research compilation. Critical investigation into the jurists views to examine the revisiting of gharar have been essayed which lend the desired distinctiveness to the work. In line with the contemporary talks of intellectual capital and its enormous role in building value the next paper analyses the intellectual capital and physical capital of selected companies and their impact on corporate performance using multiple regression technique. Performance of both public sector and private sector banks through multivariate analysis has been evaluated in the next empirical work using comprehensive measures of performance. Analyzing threadbare the performances of five major bank in India the study makes significant contributions in the field of banking and finance. The literature review on a unique research area regarding the role of human capital management in economic value addition of large scale organizations also has been made a part of this issue. The culminating paper of this issue relates to construction of appropriate benchmark index for mutual funds involving an empirical analysis with specific reference to tax saver funds The methodology focuses on estimating the risk adjusted abnormal return generated by the fund that exhibits the predictive ability of the fund manager. I sincerely hope that the issue and its comprehensive contents meet the quality standards set by our previous issues. Being positively receptive to all your valued comments, observations and feedbacks I stand committed to our promises of dissemination of quality research in finance. Warm wishes, Balwinder Singh Editor IJFM editor.ijfm@gmail.com
Within Volume 1 Issue 1, January 2012

ISSN No. 2229-5682(P) ISSN No. 2229-5690(O)
Online Access www.publishingindia.com
1. Stock Index Return Forecasting and Trading Strategy Using
Hybrid ARIMA-Neural Network Model Manish Kumar and M. Thenmozhi 2. A Study on the Linkages of Asian and the US Stock Markets S.M. Tariq Zafar, D.S. Chaubey and S.R. Sharma 3. Revisiting the Principles of Gharar (Uncertainty) in Islamic Banking Financing Instruments with Special Reference to Bay Al-Inah and Bay Al-Dayn Towards a New Modified Model Siti Salwani Razali 4. The Role of Intellectual Capital in Creating Value in Indian Companies Amitava Mondal and Dr. Santanu Kumar Ghosh 5. Performance Evaluation of Public and Private Sector Banks: A Multivariate Analysis K.V.N. Prasad and D. Maheshwara Reddy 6. Role of Human Capital Management in Economic Value Addition of Large Scale Organizations: A Literature Review Sujata Priyambada Dash and Vijay Agarwal 7. Construction of Appropriate Benchmark Index for Mutual Funds: Specific Reference to Tax Saver Funds Venkatesh Kumar and Ashwini Kumar
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Stock Index Return Forecasting and Trading Strategy Using Hybrid ARIMA-Neural Network Model
Manish Kumar* and M. Thenmozhi**
Abstract This study presents the application and development of hybrid methodology that combines both ARIMA and Artificial Neural Network model to take advantage of the unique strengths of both linear and non-linear modeling to model and predict the stock market index returns. The performance of the hybrid ARIMA Neural Network model is compared with the performance of ARIMA and Neural Network model. The performance of the models are evaluated in terms of widely used statistical metrics, correctness of sign and direction change and various trading performance measures like annualized return, Sharpe ratio, maximum drawdown, annualized volatility, average gain/loss ratio, etc. via a trading strategy. The findings of the study reveal that the hybrid ARIMA Neural Network model developed is the best Forecasting model to achieve greater accuracy and yields better trading results. Keywords: ARIMA, Artificial Neural Network, Forecasting, Stock market trading JEL Codes: C22, C45, C52, E17, G15
1. Introduction
In the last two decades, forecasting financial time series have been attempted using different linear and non-linear methods. The most popular and traditional time series model is Box-Jenkins or ARIMA model. The ARIMA approach is both simple and yields accurate results which explains its wide use. Many authors, e.g. Virtanen and Paavo (1987), Pagan and Schwert (1990), Leseps and Morell (1997), Crawford and Fratantoni (2003), etc. have used ARIMA model as proposed by Box-Jenkins to forecast different time series such as stock index returns, exchange rates, etc. and compared it with different models like Markov Switching, Regime Switching GARCH, etc. The results show that ARIMA model performed well compared to other models. However, the major limitation of the ARIMA model is the pre-assumed linear form of the model. The approximation of linear models to complex real-world financial time series problem is not always satisfactory. Financial time series are considered as highly non-linear where the mean and variance of the series changes overtime. Grudnitski and Osburn (1993) in their study stated that there is noisy nonlinear process present in the prices. Moreover, Refenes et al. (1994) in their study also indicated that traditional statistical techniques for forecasting have serious limitations with respect to applications with non-linearities in the data set such as stock indices. Hence, detecting this hidden non-linear relationship and the application of nonlinear methods may help in improving the forecasting
**
Manish Kumar, Research Scholar, Department of Management Studies, Indian Institute of Technology, Madras, Chennai, India M. Thenmozhi of Management Studies, Indian Institute of Technology, Madras, Chennai, India
Volume 1 Issue 1 January 2012
accuracy. Recent developments in the theory of Neural Computation provide interesting mathematical tools for such a new kind of financial analysis. One of the popular and powerful tools in this area is Artificial neural network. The major advantage of neural networks is their flexible non-linear modeling capability (Donaldson and Kamstra, 1996). Neural networks have flexible non-linear function mapping capability, which can approximate any continuous function with arbitrarily desired accuracy. Due to their success in financial forecasting, neural networks have been adopted as an alternative method in the prediction of stock prices, exchange rates, etc. A number of studies (Refenes et al. (1987), Kimoto et al. (1990), Takashi et al. (1990), Kryzanowski et al. (1993), McCluskey (1993), Bansal and Vishwanatahn (1993), Refenes (1994), Donaldson and Kamstra (1996), Zirilli (1997)) have investigated Neural Network model for predicting the stock market and the results support the importance of the model. Castiglianc (2001) and Phua et al. (2003) have used Neural Network to forecast stock index increment. Yao et al. (2002) used Neural Network for forecasting option price; Jasic and Wood (2004) examined the daily stock market indices of S&P 500, DAX, TOPIX and FTSE for profitability of trades based on Neural Network prediction. Thus, many studies have shown that neural networks are better and can serve as a better prediction model that can overcome many of the drawbacks associated with the traditional techniques. In the Indian context, Thenmozhi (2001) examined the feasibility of Neural Network in predicting the movement of the daily and weekly returns of BSE Index. The architecture used four inputs, which are the four consecutive daily returns and one output being the prediction of return on the fifth day. The study uses multiplayer perceptron with backpropagation algorithm. The results show that predictive powers of both the models (daily and weekly return) were low. Pant and Rao (2003) in their work used ANN for estimating the daily return of the BSE Sensex using randomized backpropagation. The study was based on the daily price time series of BSE Sensex. It used four different architectures of three-layer Neural Network that consist of three-input parameters and one output parameter. Results indicate that ANN based forecasting method is superior to the nave strategy of holding the stocks. Manish and Thenmozhi (2004) used backpropagation neural networks and compared it with a linear ARIMA model for forecasting exchange rate like INR/USD and the Stock index return. Results indicate
that ANN based forecasting method is superior to the linear ARIMA model. The recent researches have focused on using hybrid model or combining various models of forecasting to improve the forecasting accuracy. The idea behind the model combination is to use the unique advantageous features of each model to accurately analyse different patterns in the data (Reid (1968) and Bates and Granger (1969)). The study of Newbold and Granger (1974), Makridakis et al. (1982), Makridakis (1989), Clemen, (1989), Palm and Zellner (1992) and Makridakis et al. (1993) suggests that by combining several different models, forecasting accuracy can often be improved. In addition, the combined model is more robust and flexible with regard to the possible structure change in the data. There have been some studies suggesting hybrid models, combining the ARIMA model and neural networks. An important motivation to combine different forecasting is that one cannot identify the true process of the time series, i.e. the time series under examination is generated from a linear or non-linear underlying process. Moreover, the time series data often contain both linear and nonlinear patterns. Hence, different models may be tried in approximating the underlying process. However, the final selected model is not necessarily the best for future uses due to many potential influencing factors such as sampling variation, model uncertainty, and structure change. Therefore, combining different models can increase the chance to capture different patterns in the data with increased accuracy and improve forecasting performance drastically. By combining different methods, the problem of model selection can be eased with little extra effort and this can serve as a universal model thus saving time and effort (Zhang, 2003). Voort et al. (1996) used this combination to forecast short-term traffic flow. Their technique used a Kohonen self-organizing map as an initial classifier; with each class having an individually tuned ARIMA model associated with it. Su et al. (1997) used the hybrid model to forecast a time series of reliability data with growth trend. Their results showed that the hybrid model produced better forecasts than either the ARIMA model or the Neural Network by itself. Wedding and Cios (1996) described a combining methodology using radial basis function networks and the BoxJenkins models. Luxhoj et al. (1996) presented a hybrid econometric and ANN approach for sales forecasting. Pelikan et al. (1992) and
Ginzburg and Horn (1994) proposed to combine several feed-forward neural networks to improve time series forecasting accuracy. Zhang (2003) used the hybrid methodology to forecast the three well-known data sets the Wolfs sunspot data, the Canadian lynx data, and the British pound/US dollar exchange rate data. Experimental results with real data sets indicate that the combined model can be an effective way to improve forecasting accuracy achieved by either of the models used separately. Hence, there is strong evidence in the literature that hybrid models are more robust and are more accurate over the individual models. Recently, Tugba and Casey (2005) using Zhang (2003) approach showed that the combined forecast can underperforms significantly compared to its constituents performances. They demonstrated these using nine monthly time series data sets, Auto Regressive (AR) linear and Time Delay Neural Network models (TDNN). The last 12 values were reserved for testing, the preceding 12 values for validation, whilst the rest were used for training. For five of the nine data sets, the linear AR and TDNN models outperform the ARIMA Neural Network hybrids, albeit with similar levels of performance for two of these data sets. They concluded that despite the popularity of hybrid models, which rely upon the success of their components, single models themselves can be sufficient. Although, different hybrid ARIMA-ANN model has been developed, in earlier studies related to hybrid models, auto, regressive terms have been used as input to the Neural Network. The residuals of ARIMA model has been modeled using Neural Network. Zhang (2003) in his study assumed that the non-linear patterns will always be present in the residuals of the linear ARIMA model, which can be modeled using artificial neural networks. Moreover, there is an assumption that the relationship between the linear and non-linear components is additive and this may degrade performance if the relationship is different, e.g. multiplicative. Such assumptions are likely to lead to unwanted degeneration of performance if the opposite situation occurs Tugba and Casey (2005). Clemen (1989) and Granger and Ramanathan (1984) in their study states that the lack of success using the combination models may be attributed to the performance of benchmark models. The performance of the benchmark models was so much weaker than that of the neural network models that it is unlikely that combining relatively poor models with an
otherwise good one will outperform the good model alone. Hence, the result of the recent study on the hybrid ARIMA-ANN model is mixed. Moreover, the other key problems associated with these studies are as follows. These studies use simulated or artificial data set for the analysis and the number of observation for training and the test data were very low (Zhang (2003). The degree of accuracy and the acceptability of certain forecasting models are measured by the estimates deviations from the observed values, i.e. MAE, RMSE, etc. but turning point forecast capability using sign and direction test has not been considered ((Zhang (2003), and Tugba and Casey (2005)). Leung et al. (2000) in their study suggested that depending on the trading strategies adopted by investors, forecasting methods based on minimizing forecast error may not be adequate to meet their objectives. In other words, trading driven by a certain forecast with a small forecast error may not be as profitable as trading guided by an accurate prediction of the direction or sign of return. Hence, the competing models must be evaluated not only in terms of MAE, RMSE etc., but also in terms of sign and direction test. The other drawback of the previous studies is that, none of the studies evaluated their models based on the trading performance. Statistical measures of performance are often inappropriate for financial applications. The forecast error may have been minimized during model estimation, but model with a small forecast error may not be as profitable as a model selected using financial criteria such as risk adjusted measure of return Leung et al. (2000) Evaluations of models using financial criteria through a trading experiment may be more appropriate. Although, there are studies addressing the issue of forecasting financial time series such as stock market index most of the empirical findings are associated with the developed financial markets (UK, USA, and Japan). However, few studies exist in the literature which predicts the financial time series of emerging markets. Nowadays, many international investment bankers and brokerage firms have major stakes in overseas markets. Harvey (1995) found emerging market returns are more likely to be influenced by local information than developed markets; in fact, emerging market returns are generally more predictable than developed market returns. Indian stock markets have received relatively little attention until recently. Now there is more interest and research on Indian market data due to the countrys rapid growth and potential
opportunities for investors. Since the establishment of National Stock Exchange (NSE), the financial markets in this Asian country have attracted considerable global investments. Given this notion, this study examines the applicability of hybrid ARIMA-neural network models for predicting the daily return of the S&P CNX NIFTY Index and compares it with isolated ARIMA and neural network model. The study differs from earlier studies in several ways. Firstly, the study develops the hybrid ARIMA-ANN models. In the first stage of this study, the ARIMA and an artificial neural network model is used to forecast the variable of interest. In second stage hybrid ARIMA-ANN models are developed. The hybrid ARIMA-ANN model is similar to the Zhang (2003). Secondly, the different competing models are rigorously compared using two approaches. Firstly, the study examines the out-of-sample forecasts generated by different competing models employing non penalty-based performance criteria such as Root Mean Square Error (RMSE), Mean Absolute Percentage Error (MAPE) and Mean Absolute Error (MAE) and performance criteria based on direction and sign change such as Directional Symmetry (DS), Correct Up trend (CU) and Correct Down trend (CD) goodness of Forecast Measures Thirdly, the different competing models are also examined in terms of trading performance and economic criteria via a trading experiment. For example, the study uses the return forecasts from the different models in a simple trading strategy (buy when the forecast is positive and sell when forecast is negative) and compare pay-offs to determine which model can serve as a useful forecasting tool. Thus, the major contribution of this study will be (1) to find out the appropriate neural network and ARIMA model for NIFTY return series; (2) to find out the appropriate hybrid ARIMA-ANN for NIFTY return series; (3) to demonstrate and verify the predictability of S&P CNX NIFTY Index return by applying the hybrid ARIMA-neural network models; (4) to compare the performance of the hybrid model with that of individual ARIMA and neural network model in terms of forecasting accuracy using non penaltybased performance criteria such as Root Mean Square Error (RMSE), Normalized Mean Square Error (NMSE) and Mean Absolute Error (MAE) and performance criteria based on direction and sign change such as Directional Symmetry (DS), Correct Up Trend (CU) and Correct Down trend (CD); (5) to evaluate the three models in terms of trading performance via a trading experiment.
The remaining portion of this paper is organized as follows. The data used in the study, the details of hybrid approach and the benchmark models are introduced in Section 2. The empirical results from the real data sets are discussed in Section 3. Finally, Section 4 contains the concluding remarks.
2. Data and Methodology

The study is based on the daily closing prices for the S&P CNX NIFTY Index. The series span the period from 1st January 2000 to 31st March 2005 totaling a 1,319 trading days. The data is divided into two periods- the first period runs from 1st January, 2000 to 26th December, 2003 (1,000 observations) used for model estimation and is classified as in-sample, while the second period runs from 27th December, 2003 to 31st March, 2005 (319 observations) is reserved for out-of-sample forecasting and evaluation. The division amounts to approximately 25 per cent being retained for out-of-sample purposes. The use of data in levels in the stock market has many problems: stock market price movements are generally non-stationary and quite random in nature, and therefore not very suitable for learning purposes. To overcome these problems, the NIFTY series is transformed into rates of return. Given the price level P1, P2, , Pt, the rate of return at time t is formed by: Rt = (Pt/Pt1) 1. An advantage of using a returns series is that it helps in making the time series stationary, a useful statistical property.
2.1 Forecasting Methodology

The premise of this research is to examine the use of hybrid models in NIFTY returns forecasting and trading models. Their performance is compared with univariate linear ARIMA model and a non-linear backpropagation neural network. As all of these methods are well-documented in the literature, an outline of the methods is given below.
2.1.1 ARIMA Methodology

Popularly known as Box-Jenkins (BJ) methodology, but technically known as ARIMA methodology, assumes that the future values of a time series have a clear and definite functional relationship with current, past values and white noise. The mixed auto regressive model of order (p,q) denoted as ARMA (p,q) is defined as
t = q + F1Zt1 + F2Zt2 + FpZtp + F0at + F1at1 + F2at2 + Fqatq Where t is the time series and at is an uncorrelated random error term with zero mean and constant variance and q represents a constant term. The time series models are based on the assumption that the time series involved are stationary. But many a time series are not stationary, that is they are integrated. If a time series are integrated of order 1 (i.e., it is I (1)), and its first difference is I (0), it is said to be stationary. Similarly, if a time series is I (2), its second difference is I (0). In general, if a time series is I (d) after differencing it d times. Then I (0) series will be obtained. If a time series is differenced d times to make it stationary and then ARMA (p, q) model is applied to it, then the original time series is ARIMA (p, d, q), that is an autoregressive integrated moving average time series. The Box-Jenkins models are implemented using E-Views 4. The correlogram, which are simply the plots of Autocorrelation Functions (ACFs) and Partial Autocorrelation Functions (PACFs) against the lag length, is used in identifying the significant ACFs and PACFs. The lags of ACF and PACF whose probability value is less than 5% are significant and are identified. The possible models are developed from these plots for the NIFTY Index returns series. The best model for forecasting is identified by considering the information criteria, i.e. Akaike Information Criteria (AIC) and Schwarz Bayesian Information Criteria (SBIC). It is also an accepted statistical paradigm that the correctly specified model for the historical data will also be the optimal model for forecasting. Hence, it is reasonable to compare the hybrid model and the best neural network results with those of ARIMA models.
characteristics of the specific time series. The model parameters (connection weights and node biases) will be adjusted iteratively by a process of minimizing the forecasting errors. For time series forecasting, the final computational form of the ANN model is as Yt = ao + Yt = ao + w j f (a j + wijYt -i ) + e t
j =1 i =1 q p
where aj(j = 0,1,2, q) is a bias on the jth unit, and wij(i = 1,2,, p; j = 1,2, q) is the connection weight between layers of the model, f(.) is the transfer function of the hidden layer, p is the number of input nodes and q is the number of hidden nodes. Actually, the ANN model in (2) performs a non-linear functional mapping from the past observation (Yt1, Yt2,, Ytp) to the future value Yt, i.e., Yt = j(Yt1, Yt2, Yt3,, Ytp, n) + xt
where v is a vector of all parameters and j is a function determined by the network structure and connection weights. Thus, in some senses, the ANN model is equivalent to a Nonlinear Auto Regressive (NAR) model.
2.1.3 Model Formulation

This study employs a three-layer backpropagated neural network to forecast NIFTY Index returns. The return series of NIFTY Index are fed to the neural network model to forecast the next period return in this model. For example, the inputs to a 5x1 neural network are NXi4, NXi3, NXi2, NXi1 and NXi while the output of the neural network is NXi+1, the next days NIFTY return, where NXi stands for the current days NIFTY return. The architecture of the neural network is denoted by X-Y-Z. The X-Y-Z stands for a neural network with X neurons in input layer, Y neurons in hidden layer, and Z neurons in output layer. Only one output node is deployed in the output layer since one-step-ahead forecast is made in this study. The number of input nodes and hidden nodes are not specified a priori. This will be selected through experiment. This study uses tansigmoid function for the nodes in the input layer for backpropagated neural network, while tansigmoid function and pure linear function are used at hidden layers and output layers. The number of input nodes is probably the most critical decision variable for a time series-forecasting problem since it contains important information about the data. In this study, the number of input nodes corresponds
2.1.2 Neural Network Methodology

In this study, one of the widely used ANN models, the feed forward neural network is used for financial time series forecasting. Usually, the NN model consists of an input layer, an output layer and one or more hidden layers. The hidden layers can capture the non-linear relationship between variables. Each layer consists of multiple neurons that are connected to neurons in adjacent layers. A neural network can be trained by the historical data of a time series in order to capture the non-linear
to the number of lagged returns observations used to discover the underlying pattern in a time series and to make forecasts for future values. Currently, there is no theory suggesting the appropriate number of input nodes. But ideally it would be better to have a small number of essential nodes, since this can unveil the unique features embedded in the data. Too few or too many input nodes can affect either the learning or prediction capability of the network. This study resorts to experimentation in the network construction process. The network construction process has been evaluated with six levels of the number of input nodes ranging from 1 to 6. The number of hidden nodes plays a very important role too. These hidden neurons enable the network to detect the feature, to capture the pattern in the data, and to perform complicated non-linear mapping between input and output variables. Hornik et al. (1989) in their theoretical work found that single hidden layer is sufficient for the network to approximate any complex non-linear function with any desired accuracy. Most authors use only one hidden layer for forecasting purposes. This study employs three-layer BPN to forecast the daily returns of NIFTY returns. Five levels of hidden nodes, 1, 2, 3, 4 and 5 have been experimented. The combination of six input nodes and five hidden nodes yields a total of 30 different neural network architectures. These in turn are being considered for each in-sample training set for the NIFTY returns the backpropagation neural network models. This study uses backpropagation algorithm to train the BPN. Backpropagation is the most widely used algorithm for supervised learning with neural networks. The study uses MATLAB 6.5 to build and train neural network. The MATLAB program works with default parameter values of weight, assigned by the MATLAB.
where Lt denotes the linear component and Nt denotes the non-linear component. These two components have to be estimated from the data. These data then enter the first stage of the ARIMA to account for a linear component; hence the residuals from the linear model will contain only the non-linear relationship. Let et denote the residual components at time t from the linear model, then et = Yt Lt
where Lt is the forecast value for time t. Any significant non-linear pattern in the residuals will indicate the limitation of the ARIMA. By modeling residuals using ANNs, non-linear relationships can be discovered. With n input nodes, the ANN model for the residuals will be et = (et1, et-2,, etn) + et
where is a non-linear function determined by the neural network and et is the random error. Denote the forecast t , the combined forecast will be from ANN as N t = t Y Lt + N
The proposed methodology of the hybrid system by Zhang (2003) consists of two stages. In the first stage, an ARIMA model is fitted to the time series data to capture the linear part of the problem. In the second stage, an appropriate neural network model is developed to forecast the residuals from the ARIMA model. The hybrid model exploits the unique feature and strength of ARIMA model as well as ANN model in determining different patterns. So, the above hybrid ARIMA neural network model (results of uses the following: (a) forecast residuals N t ARIMA model) of neural network and (b) the forecast Lt (results of ARIMA model). The optimal architecture of hybrid model that captures the non-linear patterns of residuals of ARIMA model is formed in the same way as discussed in the model formulation of neural network methodology.
2.1.4 The Hybrid Methodology

This study develops the hybrid models to forecast the S&P CNX NIFTY Index return. The forecasting method using hybrid models initiates with the basic time series data on NIFTY Index return. It may be reasonable to consider a time series to be composed of a linear autocorrelation structure and a non-linear component. A hybrid model comprising a linear and a non-linear component has been employed in the experiments (Zhang, 2003): It is represented as Yt = Lt + Nt
2.2 Forecasting Accuracy and Trading Simulation

To compare the performance of the models, it is necessary to evaluate them on previously unseen data. This situation is likely to be the closest to a true forecasting or trading situation. To achieve this, all models were maintained with an identical out-of-sample period allowing a direct
comparison of their forecasting accuracy and trading performance.
Where DYt is the amount of change in actual variables t is the amount of change between time t1 and t; and DY in forecasting variables between time t1 and t. Cumby and Modest (1987) suggest the following regression equation: Ft = a 0 + a1A1 + et
2.2.1 Out-of-Sample Forecasting Accuracy Measures

This study uses six widely used statistical metrics such as Mean Absolute Percentage Error (MAPE), Mean Absolute Error (MAE), Root Mean Square Error (RMSE), Directional Symmetry (DS), Correct Up trend (CU) and Correct Down trend (CD) to evaluate the forecasting capabilities between the three models. RMSE, MAPE and MAE measure the deviation between actual and forecast value. The smaller the values of MAE, MAPE and RMSE, the closer are the predicted time series values to that of the actual value. It is observed that RMSE, MAE or MAPE functions that are used for financial forecasting models may not make sense in the financial context. Caldwell (1992) gives a general review for the performance metrics. Yao et al. (1996) use the correctness of the trend to judge the performance of neural network forecasting model. So this study uses additional evaluation measures, which includes the calculation of correct matching number of the actual and predicted values with respect to sign and directional change. DS measures correctness in predicted directions while CU and CD measure the correctness of predicted up and down trend, respectively, in terms of percentage. Higher value of these metrics indicates better direction and time information. The statistical performance measures used to analyze the forecasting techniques are presented in Appendix 1. This study also uses other measures to test the models ability to predict turning points. A correct turning point forecast requires that: t Y t - t ) = Sign (Y Y ) Sign ( Y t t1 represents the actual and predicted value Where Yt and Y t at time t. The ability of a model to forecast turning points can be measured by a fourth evaluation method developed by Cumby and Modest (1987). This model defines a forecast direction variable Ft and an actual direction variable At such that At = 1 if DYt > 0 and At = 0 if DYt 0 t > 0 and F = 0 if DY t 0 Ft = 1 if DY t
where et is error term; and a1 is the slope of this linear equation. Here, a1 should be positive and significantly different from 0 in order to demonstrate those Ft and At have a linear relationship. This reflects the ability of a forecasting model to capture the turning points of a time series.
2.2.2 Out-of-Sample Trading Performance Measures

Statistical performance measures are often inappropriate for financial applications. Typically, modeling techniques are optimized using a mathematical criterion, but ultimately the results are analyzed on a financial criterion upon which it is not optimized. In other words, the forecast error may have been minimized during model estimation, but the evaluation of the true merit should be based on the performance of a trading strategy. Hence, this study uses a simple trading strategy to evaluate the performance of different models. The operational detail of the trading is as follows. This study considered an index in place of a single stock to avoid (or average out) the impact of company-specific news on the prediction of only one stock, given that the prediction is performed by taking into account past prices only. In the simulated market set up for experimenting the proposed methodology, a virtual trader can buy or sell stock index fund on the stock index concerned, and both short and long positions can be taken over the index. Assume that a certain amount of seed money is used in this trading experiment. The seed money is used to buy stock index funds when the prediction shows a rise in the stock index price. To calculate the profit, the stock index funds are bought or sold at the same time. It should be noted that the price of the stock index fund is directly proportional to the index level so that the virtual investor can gain from both a fall and rise of the stock index price. The trading strategy is to go long when the model predicts that the
stock index price will rise, i.e. the forecast is positive and a sell otherwise. Then the stock index funds will be held at hand until the next turning point that the model predicts. For many traders and analysts, market direction is more important than the value of the forecast itself, as in financial markets money can be made simply by knowing the direction the series will move. The trading performance measures used to analyze the forecasting techniques are presented in Appendix 2. Some of the more important measures include the Annualized return, Annualized volatility, Sharpe ratio, maximum drawdown and average gain/loss ratio. The Sharpe ratio is a risk-adjusted measure of return, with higher ratios preferred to those that are lower; the maximum drawdown is a measure of downside risk and the average gain/loss ratio is a measure of overall gain, for which a value above one is preferred. The application of these measures may be a better standard for determining the quality of the forecasts. After all, the financial gain from a given strategy depends on trading performance, not on forecast accuracy.
Table 2 Unit Root Test for the NIFTY Return Series

Augmented Dickey Fuller Test Statistic Critical Value Phillip Perron Test Statistic Critical Value
15.64312
3.4382
32.62406
3.4382
3.3 ARIMA Model

The correlogram is used to identify the number of significant spikes of ACF or PACF of the NIFTY Index return series. The lags of ACF and PACF whose probability value is less than 5% are significant and are identified. Several ARMA specifications were tried out. After considering all possible models and looking at AIC and SBIC as given in Appendix 3, the ARIMA (1 1 2) model are identified for NIFTY return. In order to verify the adequacy of ARIMA model, the study uses one of the popular diagnostics test known as Breusch-Godfrey LM Test. Here the test is used to check the presence of serial correlation in the residuals. It allows us to examine the relationship between residuals and several of its lagged values at the same time. The Null Hypotheses to be tested is there is no serial correlation. If the predictability value is greater than 5% then we can accept the Null Hypotheses (at 95% confidence levels) which means there is no serial correlation in the series. The Breusch-Godfrey LM Test for serial correlation of residuals as shown in Table 3 suggests that, in case of NIFTY return the ARIMA model captures the entire serial correlation and the residual do not exhibit any serial correlation. Table 3 Breusch-Godfrey Serial Correlation LM Test for the NIFTY return
F-Statistics Probability Obs*R Square Probability
3. Results
3.1 Summary Statistics
The mean, median, standard deviation, skewness, and kurtosis for the NIFTY Index return are given in Table 1. The analysis shows that the sample mean of daily returns of NIFTY returns is not statistically different from zero. The measure of skewness and kurtosis indicates that the distributions of the return series are different from the standard normal distributions. They reveal a slight skewness and high kurtosis, which is common in financial time series data Table 1 Descriptive Statistics of NIFTY Returns
Mean Median Std. Dev Skewness Kurtosis Observations
.000306 .001202 .015392 .621756 8.409610 1319
1.004433
0.366624
2.016921
0.364780
3.2 Stationarity Test

The Augmented Dickey Fuller test and Philip Perrons test statistics as given in Table 2 indicate that the rate of return of the NIFTY Index is stationary as the absolute value of statistics is greater than the critical value and thus, the time series is suitable for modeling.
3.4 Neural Network Model

The combination of six input nodes and five hidden nodes yields a total of 30 different neural network architecture which are being considered for each in-sample training set for NIFTY return and the residuals of ARIMA model. The best network architecture thus obtained from this
experiment for NIFTY return and residuals of ARIMA model on the basis of least error (MSE) associated with the model is 3-2-1, i.e. three input nodes in input layer, two nodes in hidden layer and one node in output layer. The Neural network model 3 2 1 provides better fit to the NIFTY returns and ARIMA residuals series.
it is observed that hybrid model outperforms the other two models. MAE and RMSE achieved by the hybrid model is quite low indicating that there is a smaller deviation between the actual and predicted values in hybrid model. Between neural network and ARIMA models, the former performs better in terms of the three most commonly used criteria i.e. MAE, RMSE and NMSE. The results of the hybrid model show that by combining two models together, the overall forecasting errors can be reduced considerably. In terms of other performance metrics like correct up (CU) and correct down (CD), hybrid models yields better performance than the other models. It is really the directional symmetry (DS) measure that singles out the neural network model as the best performer, predicting most accurately 52.38 per cent of the time. These three criteria provide a good measure of the consistency in prediction of the time series direction. Between hybrid model, neural network and ARIMA models, the latter performs worst almost all of the times in terms of performance metrics like direction sign and change and non penalty based measure like MAE, NMSE and RMSE. A majority decision rule would therefore select the hybrid model as the overall best model.
3.5 Hybrid Model

One hidden layer is used to develop the hybrid models. The study experimented with different nodes or neurons in hidden layer, which varies from one to five for the different hybrid models. The output layer has one neuron or node, which is the forecast value. The study uses MSE to select the architecture. The hybrid model which uses forecast results of ARIMA and the forecast residual (results of ARIMA) of neural network has three hidden neurons in hidden layer and three input neurons in input layer.
3.6 Forecast Evaluation

Out-of-Sample Forecasting Accuracy Results
For the NIFTY return series one-period-ahead forecast were produced by the three models namely hybrid modes, ARIMA and neural networks. The predictive performance of the three models is summarized in Table 4.
Turning Point Evaluation
Table 4 Out-of-Sample Prediction Accuracy

Model MAE RMSE Performance Metrics NMSE DS CU CD
Hybrid Model Neural Network ARIMA
0.011063 0.011107 0.011125
0.015916 0.016153 0.016275
0.937088 0.965219 0.979853
0.514285 0.523809 0.425396
0.540541 0.527027 0.405405
0.481928 0.481928 0.439759
The main purpose of any financial time series modeling is to determine how well forecasts from estimated models perform based on the non penalty based measure of performance such as MAE, RMSE and NMSE. The forecasting accuracy statistics provide very conclusive results. A glance at these values shows the superiority of hybrid model over the two other models. Comparing the forecasting performance of the three models in terms of MAE, NMSE and RMSE for the NIFTY return time series;
The turning point evaluation method using Cumby and Modest (1987) regression equation is shown in Table 5 for all the models. The t ratio of the slope coefficient a1 of all the models shows that it is statistically different from zero for the NIFTY Index return time series. This implies that all models have good turning point forecasting ability.
10

Trading Measure of Performance Hybrid Model Neural Network ARIMA
Table 5 Results of turning point forecasting capability of the five models

Method ARIMABP NN ARIMA
a0 (t-ratio) a1 (t-ratio)
.242 (9.862) .474 (13.85)
.224 (9.071) .513 (14.95)
.342 (15.49) .291 (9.34)
Null hypothesis of the a0 or a1 existence of the is equal to zero. The t ratio of the slope coefficient a1 is statistically different from zero. This implies that for the out-of-sample period, the model had turning point forecasting power.
Out-of-Sample Trading Performance Results

The performance of the hybrid model is encouraging. However, predictability does not necessarily imply profitability. Hence, the model that can assure profitability on using particular type of strategy needs to be identified. It has to be known if the investor can make profit, if so how much and on what risk. In order to evaluate the performance of the three models trend following strategies was used via a trading simulation. The trading simulation allows virtual investors to trade on the Nifty Index using Index funds. The investors choose to buy or sell each day based on the next days return of the three models. The procedure to create the buy and sell signals is quite simple: a buy signal is produced if the forecast return is positive and a sell otherwise. If a buy signal is created, then the investor will invest the amount proportional to the index level. A comparison of the trading performance results of the three models is presented in Table 6. Table 6 Trading Performance Results
Trading Measure of Performance Hybrid Model Neural Network ARIMA
Number of transactions Total trading days Avg gain in up periods Avg loss in down periods Avg gain/loss ratio Profits T-statistics Number of periods daily returns rise Number of periods daily returns fall Number of winning up periods Number of winning down periods % winning up periods % winning down periods
213 315 1.29% .90% 1.43 55.99 169 146 95 79 59.00% 51.30%
193 315 1.29% .94% 1.38 37.88 169 146 90 72 53.25% 49.31%
183 315 1.18% 1.06% 1.11 22.33 169 146 100 66 59.17% 45.20%
The results of the hybrid model are quite impressive. It generally outperforms the benchmark models, i.e. neural network and ARIMA models in terms of overall profitability with annualized return of 81.40 per cent, cumulative return of 100.56 per cent, annualized volatility of 25.80 per cent and in terms of risk-adjusted performance with a Sharpe ratio of 3.15. ARIMA model perform worst both in terms of overall profitability with annualized return of 33.00 per cent, and in terms of riskadjusted performance with a Sharpe ratio of 1.25. The hybrid model has the lowest downside risk as measured by maximum drawdown at 14.96 per cent, while ARIMA model has the highest downside risk at 20.53 per cent. The hybrid model predicted the highest number of winning down periods at 79. The ARIMA model forecast the highest number of winning up periods at 100; however the hybrid model was second best for this measure. Interestingly, all models were more successful at forecasting a rise in the NIFTY returns series, as indicated by a greater percentage of winning up periods to winning down periods. The ARIMA model predicted correctly a rise in the NIFTY returns series with 59.17 per cent, the hybrid model was the second best for this measure. The hybrid model successfully forecasted a fall in the NIFTY return series with 51.30 per cent, the neural network model was the second best for this measure.
Annualized Return Cumulative Profit Annualized Volatility Sharpe Ratio Maximum daily profit Maximum daily loss Maximum drawdown % winning trades % losing trades Number of up periods Number of down periods
81.40% 100.56% 25.80% 3.15 12.24% 03.94% 14.96% 50.24% 49.77% 175 140
55.65% 68.75% 26.07% 2.13 12.23% 04.89% 17.13% 55.44% 44.55% 163 152
33.00% 40.77% 26.22% 1.25 12.23% 08.29% 20.53% 52.45% 47.54% 167 148
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The hybrid model has the highest number of transactions at 213, while the ARIMA model has the lowest at 183. In addition, the hybrid model has the highest average gain/loss ratio at 1.43, highest maximum daily profit at 12.24 per cent and lowest maximum daily loss at 3.94 per cent, while the ARIMA model has the lowest average gain/loss at 1.11 and highest maximum daily loss at 8.29 per cent. A simple neural network model outperforms the hybrid model and ARIMA models in terms of percentage of winning and per cent of losing trades with a value of 55.44 per cent and 44.55 per cent respectively. As with statistical performance measures, financial criteria clearly single out the hybrid model as the one with the most consistent performance: it is therefore considered the best model for this particular application. Zhang (2003) in their study found that hybrid ARIMANN model outperform the individual neural network and ARIMA model. However, the studies uses only non penalty based criteria (MAE, RMSE etc) to evaluate the forecast model. The turning point forecast capability test has not been considered. Moreover, these studies does not evaluated their models based on the performance of trading. The present study generally supports the finding of the Zhang (2003) and contradicts the findings of Tugba and Casey (2005). The results validate the findings with real financial time series data and also using by evaluating the performance of models using a trading strategy.
component model used in isolation. A neural network architecture of 3-2-1 and ARIMA (1 1 2) is the best identified model for forecasting the returns of NIFTY Index. With the prediction, significant profits were obtained for a chosen testing period. The results show that useful prediction could be made for NIFTY without the use of extensive market data or knowledge. It also shows how an 81.40 per cent annual return and a Sharpe ratio of 3.15 could be achieved by using the hybrid model. The present results indicate that the hybrid ARIMA neural network models is important in out-of-sample forecasting and trading performance, and are in line with Wedding and Cios (1996) and Zhang (2003) who found that hybrid model works well and found to outperform the isolated models. The results are in contrary with the results of Tugba and Casey (2005). Thus, the study shows that hybrid ARIMA-neural network model outperforms in forecasting stock index returns both in terms of forecasting accuracy and in generating trading returns. Probably this type of hybrid model could be used by policy makers in forecasting financial and economic data, apart from traders, borrowers, FIIs and arbitrageurs developing trading models that leads to better investment decision and returns.
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4. Conclusion
This study reports an empirical work which investigates the usefulness of hybrid (ARIMA and neural network) model in forecasting and trading the S&P CNX NIFTY Index return. The linear ARIMA model and the non-linear ANN model are used in combination, aiming to capture different forms of relationship in the time series data. The performance of the hybrid model was measured statistically and financially via a trading simulation. The logic behind the trading simulation is that, if profit from a trading simulation is compared solely on the basis of statistical measures, the optimum model from a financial perspective would rarely be chosen. The hybrid model was benchmarked against traditional forecasting techniques such as ARIMA and non-linear technique like neural network to determine any added value to the forecasting process. The empirical results with the NIFTY returns clearly suggest that the hybrid model is able to outperform each
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4. DS =
100 dt , dt = N t
-Y ) 1 if (Yt - Yt -1) (Y t t -1 0 Otherwise
dt
5. CU =
kt
t
-Y ) > 0; (Y - Y ) ( Y -Y )0 1 If ( Y t t -1 t t -1 t t -1 dt = , 0 Otherwise 1 If ( Yt - Yt -1 ) > 0 kt = 0 Otherwise
dt
6. CD =
kt
t
-Y ) < 0; (Y - Y ) ( Y -Y )0 1 If ( Y t t -1 t t -1 t t -1 dt = , 0 Otherwise 1 If ( Yt - Yt -1 ) < 0 kt = 0 Otherwise represents the actual and predicted value Where Yt and Y t at time t and N is the number of predictions.
Appendix 2
1. Annualized return : RA = 255 2. Cumulative return : R c = 1 N Rt N t =1
1 N Rt N t =1 255 1 N ( Rt - R )2 N - 1 t =1
3. Annualised volatility : sA =
Appendix 1
1. NMSE = )2 (Yt - Y t (Yt - Yt )2 4. Sharpe ratio : RA/sA
2. MAE =
| | Yt - Y t N )2 S (Yt - Y t N
5. Maximum daily profit : Maximum value of Rt over the period 6. Maximum daily loss : Minimum value of Rt over the period 7. Maximum drawdown : Maximum negative value of S(Rt) over the period
3. RMSE =
14
MD = min ( Rtc - max( Rtc ))

t =1N i =1t
where Qt = 1 if Yt > 0 else Qt = 0
8. % Winning trades : WT = 100 NT where Ft = 1 transaction profitt > 0

t =1
t =1
Ft
18. Number of periods daily returns : NPF = St t =1 falls where St = 1 if Yt < 0 else St = 0 19. Number of winning up periods : NWU = Bt
t =1 N
Gt
where Bt = 1 if Rt > 0 and Yt > 0 else Bt = 0 20. Number of winning down periods: NWD = Et
t =1 N
9. % Losing trades : LT = 100 NT where Gt = 1 transaction profitt < 0 10. Number of up periods : Nup = number of Rt > 0 11. Number of down periods : Ndown = number of Rt <0 N 12. Number of transaction : NT = Lt
t =1
where Et = 1 if Rt > 0 and Yt < 0 else Et = 0 21. Winning up periods (%) : WUP = 100*(NWU/ NPR) 22. Winning down periods (%) : WDP = 100 * (NWD/ NPF)
where Lt = 1 if trading signalt = trading signalt1 13. Total trading days : Number of Rts 14. Avg. gain in up periods : AG = (sum of all Rt > 0)/ Nup 15. Avg. loss in down periods : AL = (sum of all Rt < 0)/ Ndown RA 16. Profit T-statistics : T-statistics = N A s 17. Number of periods daily returns : NPR = Qt t =1 rise
N
Appendix 3
Model AIC SBIC
ARIMA (1 1 1) ARIMA (2 1 1) ARIMA (1 1 2) ARIMA (2 1 2) ARIMA (1 1 3) ARIMA (2 1 3)
5.567444 5.571542 5.572746 5.571903 5.570930 5.571832
5.552709 5.551880 5.553099 5.547325 5.546371 5.552339
** ARIMA (1 1 2) has the lowest AIC and SBIC value
...
A Study on the Linkages of Asian and the US Stock Markets

S.M. Tariq Zafar*, D.S. Chaubey** and S.R. Sharma***
Abstract In the current unpredictable and volatile economic environment, the investment avenues have been changing rapidly. The stock market is one of them. There are multiple unpredictable factors which affect the performance of the global market time to time. In recent years, we have observed an unprecedented growth in the complexity of instruments for trading and risk management in international market and thus issues of international stock market linkages and the relationship between the Asian stock markets and others stock markets deserves to be investigated to justify the risk and return factor after the Asian Financial Crisis. This is the rst exhaustive study of its kind on linkages and the interrelationship between the Asian stock markets and others stock markets namely, Malaysia (Kuala), Singapore (Strait), Philippines (Pse), Indonesia (Jakarta), China (Shanghai), Japan (Nikkie), Korea (Kospi), and the US (Dow) and reveal that stock markets of Thailand, Japan and China are exogenous before, during and after the crisis respectively. For the purpose of study composite sample consisting of all the stocks based on weekly stock indexes is been used to construct panels and for the same the total samples are separated into three sub periods January 2005 to December 2007, January 2008 to December 2008, January 2009 to December 2009. The rst part of paper gives an insight about the Asian and US stock markets and its various aspects. The second part consists of data and their analysis, collected from the various websites and manuals. The short-term linkage was tested through granger causality test based on
Vector Error Correction Model (VECM), and the co integration or long-term linkage was through EngleGranger co integration test. The empirical results show that the number of signicant cointegrating vector is higher during the crisis periods compared to other periods and concludes that the linkages between the Asian and the US stock markets are stronger in the post-crisis period Keywords: VECM, Unit Root, DF test, ADF test, Shanghai, Nikkie, Kospi, Dow, Stock market JEl Codes: COI, C22, C51, C53, G12, G14, G15, H83, F3
1. Introducon
Over the past decade, business has continued to grow with pace and became more globalised than ever and resulting demand for nance in many folds. With the growing global trade the needs to communicate across the borders has correspondingly multiplied, consequently there is globalization of capital markets which became integral part of economy and also custodian of socio-economic integrity and play instrumental role in global economic growth and have a deep impact on overall capital employment. Company in one country is borrowing in the capital market of another country. In an open economic competition and in the era of globalization performance
S.M. Tariq Zafar, Director, Charak Institute of Business Management, Lucknow, India. Dr D.S. Chaubey, Director, UIBS, Dehradun, India. *** Dr S.R. Sharma Dr. S.R.Sharma, Director, MIT, Dehradun, India
**
16
of organization changes day by day, investment avenues became global and expanded gradually with continuous strength. With growing capital market and introduction of high breed nancial instrument for common benet it became important to understand the concept of global stock markets its investment, risk and return signicance in economic development. To achieve complete efciency in stock market may not be possible because of difference in the economic, political, legal and cultural environment which cast there shadow on shareholders return. In general perception, investment is regarded as a sacrice of certain present value of the uncertain future reward or allocation of funds to assets that are expected to yield some gain over a period of time which exclusively involves strategic decisions like, where to invest, when to invest and how to invest. Since every investor have different behavior with common appetite to invest in those investment policies which may generate maximum return with minimum risk. To have return with safe growth and investment in unpredictable global capital / nancial market, investors have to establish some diversied policies and procedures to shed the risk and equate the invested expectations through global portfolio which is an appropriate selection and collection of investments held by institutions or a private individual. In order to attract the investors globally, market reforms are inevitable which may fuel competition in nancial market with safe return to investors and produce positive nancial vibration which explores capital market efciency and zenith the growth. Balance nancial employment and motivating returns on investment need healthy and vibrant capital market. Positive stock markets encourage common investors to invest in security market and maximize the wealth. In order to cater the global economic competition and varied requirements of savers and investors wide spectrum of nancial intermediaries with high breed investments offerings both in money market and capital market with nations central banks as the apex body have come into existence across the globe. Further in efforts to manage unexplored challenges and capitalize the global investment opportunities to the fullest, pursuance of nations policy of liberalization, privatization, and globalization has fueled overall competitiveness in global economies and respective stock markets. Global economies offering tremendous opportunities to stock market and other nancial organizations to explore expand and diversify their product range and operators besides improving their operational efciency. Effective
execution of strategy is contingent upon adoption of new high breed global nancial instrument, technology better possess of credit and risk appraisal, fund management, product diversication, responsive structure, internal control and availability of talented man power.
2. Causes of Recession and Its Impact

The nancial crisis which in respect recognized as great recession was sponsored by greedy uncontrolled fall of world trade currency the US dollars by 40% which chopped investors interest earning on their assets by more than 80% during 2001-2008. It happens due to Federal Reserve Banks secret mission with no accountability. The over emphasis upon debt instead of income through hyper inating the money supply US dollar began to fall in value and touched historic low against the major competitive currencies. The Federal Reserve Bank printed too many dollars to cover mounting budget decit which was $164.7 billion in the third quarter as to avoid a recession which has created an imbalance between income and assets and caused drastic ination a hidden tax which was 4.3% in 2007 and was 1% higher than its GDP. It has been noted that ination sabotaged US growth and swallowed 15% of its economy and its Infection spread and created insecurity globally. The IMF sees ination rate nearly doubling by almost 12 % in emerging and developing world due to recession impact. To control ination you need to control money supply but in USA money supply exploded astonishingly 3,000% from $302 billion in 1959 to $11.5 trillion in 2006 and thus dollars purchasing power collapsed almost by 85% during the period resulting America becoming largest debtor on earth which mounted to & 53 trillion. Once largest creditor nation in the world US became largest debtor nation and its overall debt observation was considered in between 70 to 100 trillion dollars with increasing trend of more than $7.4 billion per day. In the previous year of recession, its total debt grown almost by & 4.3 trillion, comparatively 5.5 times larger than US, GDP. Interest on foreign debt rose almost by $2.2 trillion, Business and nancial sector debt grown by 7-11%, Almost 80% of American debts which stood to around $42 trillion were created since 1990. Highest debt ratio in world history, thats $175,154 per man, woman and child or $700,616 per family of four. In May 2007 trade surplus of US recorded historic negative trade decit of $827 billion. Since 1985, its
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international decit is approximately 35% larger than social security spending, almost 50% larger than all defense spending, and 2.5 times higher than Medicare. Its merchandise ratio to national income has grown to 18%. Its overall merchandise trade decit of $815 billion in 2007 was due to its trade performance and created history by establishing second largest negative trade balance. Its cumulative decit mounted to 6.6 trillion dollars which caused negative international net worth of $5 trillion and its core manufacturing base reduced by 60%, Americas 27% of the economy depends on international trade in goods; foreign interests have more control over the US economy than Americans and interest on foreign debt rose almost by $2.2 trillion. They own about $9 trillion of US nancial assets, including 13% of all stock, 13 % of agencies, and 27 % of corporate bonds. Its foreign reserve and universal reserve fell from 50% of the worlds total to 2.4% ratio, a 95% drop. As 2006 SDR data revealed that USA has $69 billion as compared to China $1.04 trillion, Japan $882 billion reserves. During the period China and Japan together own 40% of the total world international reserve ($5 Trillion) and US share is just 1% with tremendously growing international debts in comparison to it mare $69 billion international reserve. It is also revealed that 80% of worlds ofcial foreign exchange reserves which is about $2.2 trillion dollars are held by Asian central banks. Since 1990s with declining US manufacturing base, its per capita energy consumption have increased heavily. Each day the world oil market consumes 76 million barrels, America, with 5% of the total world population consumes three times more oil than its total productivity, and it has consumption of 20 million barrels per day (26 % of world total oil production). The difference between Americans production and consumption during the period was almost 75% which produced decit gap of 15.5 million per day and collectively 5.7 billion per year. Further, its population increased 70 million and in its comparison in last 30 years its oil reserves declined by 42% and it produces only 20 billion barrels oil. In comparison to economic growth its spending ratios and its employee number increases faster than its population. Federal government spending ratios reached almost 25% of its total national income which was 10 times more growth in government spending than its economy growth since 1930 and consumed 15% of its economy. During the period education productivity dropped by
71% and unemployment rate increases to it all time high. There was very unusual situation. The economy grew at a 0.6% annual rate over the last two quarters, the slowest pace since 2001 recession. In 2007, US housing market worsened and were one of the major causes for the subprime crises that were witnessed and resulted in collapse of large nancial institutions, the bailout of banks by national government and downturns in stock markets around the world. Years of easy liquidity and relatively low interest rate regime fuelled an economic boom across the globe, driven largely by credit expansion and magnicent rise in asset prices. Default and losses on other loan types also increased signicantly as the crises expanded from the housing market to other parts of the economy. However, the obscure problem of plenty began to surface in the US mortgage economy, with disastrous parameter. Mortgage prices in US declined 40% in less than a year and impacted the economy of US in large. Policymakers did not recognize the increasingly important role played by nancial institutions such as investment banks and hedge funds, also known as the shadow banking system which resulted number of established and leading banks collapsed as some of them were not commercial banks but was connected with commercial banks through derivatives transactions. Large number of the banks was heavily dependent for short term funds on money market mutual fund that provided wholesale fund, ed the market. In fact banks were not felled losses on their subprime loans. They were felled by losses on mortgage backed securities caused by drying up of liquidity and by the loss of nerve of market participant, condence. Questions regarding banks solvency, declines in credit availability, and damaged investors condence had an impact on global stock markets, where securities suffered large losses during late 2008 and early 2009. The US tried to maintain and expands consumption rather than producing real goods and savings thus facing uncontrollable debt in relation to size of its economy. In order to develop stability in overall market it provided funds to encourage lending and restore faith in commercial paper markets in addition it also bailout integral nancial institutions and implemented economic stimulus programs to promote and protect market condence. The (FED) chairmen acknowledged that the central bank faced increasingly contradictory pressure of slowing growth and rising consumer prices. In past 1 % decline in US growth impacted growth in emerging economies by 0.5% to 1 % depending on trade and nancial links to US and
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Week dollars impacted Asian exports in particular. Since 1997, Asia attracted almost 50% of the total capital inow. It is due to large population which make Asia darling of investor. The economies of Southeast Asia handsomely maintained a high interest rate which attracted investors who are found of high return. With the support of World Bank, IMF, regional economies of Asia experienced high growth rates but the recession of US impacted global market to a large extent and market with close interrelation suffered in multiple way. In addition to recession, Asian countries weak domestic nancial system, free international capitals ows, uctuating market and investors sentiment and hype hazard economic policies also played supportive role.
3. Literature Review
Literature review is an organized and scientic approach of study which require collection and systematic analysis of literatures in the selected area of the researchers in which they have limited or no exposure. A deep survey of literature exposed the truth that large number of researchers, independent and professional research institutions and academicians has carried out extensive research in the eld of international stock market linkages and many are concerned about the relationship between the Asian stock markets and others after the Asian Financial Crisis, Sharpe and Cooper, Basu, Irala,Brown, S.V. Ramana Rao, Zafar S.M, Tariq, Naliniprava Tripathy,M. Kabir Hassan, Neal C. Maroney Hassan Monir El-Sadyand Ahmad Telfah, Barman and Smanta, Myong Jae Lezand SooCheong (Shawn) Jang, and they produced important ndings which pave multiple dimensions and set ultimate standard. It has been noted that large number of the studies has been carried out in developed economy or developed countries stock market, few studies in this context is been carried out in developing economy or countries stock market. Further outcome of these studies reects that studies which are carried out in developing nations are not scientic and lack authenticity and validity thus keeping developing nations in mind this paper initiate humble beginning in this, respects. Ayshanapalli et al. (1995) in his study he examine the existence of a common stochastic trend between the US and the Asian stock market movements during pre- and post-October 1987 periods. For the study he took data for the time period January 1, 1986 to May 12, 1992 from Singapore, Thailand, Malaysia, Philippines, Hong
Kong Japan and United States. He used cointegration and error-correction model for his study and found that inuence of the US stock market innovations were in excess during the post-October 1987 period. The study concluded with the fact that Asian stock markets are less integrated with Japans stock market than they are with the US stock market, Masih and Masih (1999) in his study examined the long-term and short-term dynamic linkages between the international and Asian emerging stock markets, and tried to quantify the extent of the Asian stock market uctuations which are explained by intra-regional contagion effect. The nding of study at the global level, conrm the widely outing doctrine of united State leadership in short and long term stock market and its existing relationship between OECD stock markets along with the emerging Asian stock markets. At Southeast Asia, the results of the study conrm the dominating role of Hong Kong stock market which was even expected too, Malliaropulos and Priestly (1999) in their study investigated the predictable component of Southeast Asia Stock market. For the purpose data from January 1988 to December 1995 at weakly frequency basis was taken as sample and the study ndings were assessed by adjusting stocks returns for potential time varying expected returns and partial integration of this emerging market into world capital market. The study clearly indicated the danger of testing market efciency without sufciently adjusting the stock returns with care, especially time variation in the expected return and partial integration of local markets into world class, Sheng and Tu (2000) in their study they investigated linkages among national stock markets before and during the period of their Asian Financial crisis through co-integration and variance decomposition analysis. For the study they took data from July 1, 1996 to June 30, 1998 on daily closing prices basis of the New York S&P 500 and the 11 major Asia-Pacic equity market indexes. The outcomes of the study reveals that Southeast Asian countries have strong relationship in comparison to the Northeast Asian countries and the ndings also indicate that there were no cointegrational relationship prior to Asian nancial crises. Further the forecast error variance decomposition nds that the degree of exogeneity for the stock markets has been reduced to an extent, Manning (2002) in his study tried to investigate the comovement of stock markets in South Asia, concurrently taking the United States to be an external stock market. For the study they took the data compromised weekly and quarterly information on stock indexes and US dollars series for the US, Hong Kong,
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Indonesia, Korea, Japan, Malaysia, the Philippines, Taiwan, Singapore and Thailand for the period from January 1988 to February 1999. His study produced that generally two common trends are present in the East Asian stock market indexes and similarly two trends prevails when the US stock market additionally included in Johansen VAR, Azman, Saini et al. (2002) in their study tried to investigate presence of causality among the ASEAN-5 equity market in the long run. For the study they have used weekly Morgan Stanley Composite Index (MSCI) along with indexes obtained from the Kula Lumpur Stock Exchange (KLSE) covering the period from January 1988 to August 1999 and implemented unit root tests involved both Augmented Dickey- Fuller (ADF) and Phillips and Person (PP) test for the purpose. The study indicated that market have erratic causality presence with weak form, Johansen and Juselious (JJ) in their study tried to investigate the impact of Asian nancial crises and Gulf war 1990 on relative stock market by using maximum likelihood procedure for co integration testing and for long run causality test the Toda- Yamamoto causality is been viewed. The study nding reects that stock market of Singapore in long run was affected by Philippines, otherwise it was constant and not been affected by other stock markets of ASEAN-5. Further results also indicate that opportunities exits there for positive international portfolio diversication within the context of the ASEAN-5 stock markets, Click and Plummer (2005) in their study examined whether the ASEAN-5 stock markets are integrated or segmented by using the time series technique of co integration to produce the possibility of long run relationship. Data on the basis of weekly stock index quotes from July 1, 1998 to December 31, 2002 are used in local currencies. The study suggests that there is only one signicant co integrating vector, leaving four common trends among ve variables and conclude with indication that the ASEAN-5 stock markets are co integrated in economic sense, but the integration cannot be considered as a absolute co-integration, Choudhry et al. (2007) tried to examine empirically the changes in the long run relationships between the stock prices of eight Fareast countries during the Asian nancial crises, 199798. For the purpose daily stock prices indexes ranging from January 1, 1998 to January 1, 2003 were taken. The empirical outcome of the study indicates that there was signicant long run relationship and linkages between the Fareast stock markets before, during and after the crisis. The core nding suggests that during the crises period
there were deep linkages and sound relationships among the stock markets. Further the study indicate signicant inuence of US stock market in all the period along with growing inuence of Japanese stock market, Jang and Sul (2002) in their study tried to analyze the changes in the co-movement among the stock markets of the Asian countries like Thailand, Korea and Indonesia which have undergone the crises directly and the other neighboring countries like Singapore, Taiwan, Japan, and Hong Kong being inuenced indirectly by the crises. For the study purpose, sample have been taken from October 1, 1996 to September 30, 1998 and have been divided into eight months sub period. By using Granger-causality test and co-integration analysis, they found that there was no comovement in the stock markets of seven Asian countries before the crisis. Study witnessed that during the period of Asian nancial crises (June, 1997) unidirectional and bidirectional linkages among the Asian stock markets was increased signicantly. The study also witnessed strong comovement in some cases and the linkage among the Asian stock markets became stronger during the eight months of post crises. Korczak and Lasfer (2005, 2008) reveled that in the post-event period the cumulative abnormal returns are positive and signicant for both domestic and cross- listed rms, but they are statically higher for the domestically- listed companies. Going thorough literature of different academicians and nancial scientist it can be deemed that these studies are helpful for future nancial planning but cant be considered as an ultimate remedy to volcano recession. It is hard truth that ends of one recession is beginning of another. It is one side of economic growth and its causes are more political and lesser socio- economical. Chauvinistic attitude of developed economies, constipated attitude of developing economies and blind attitude of under developing economies are the core motivator of recessions. More global studies time to time are inevitable in this context and effective suggestions are to be made in order to control the recession.
4. Objecve of the Study

Objective of the study is to examine the interrelationship between the Asian stock markets and US stock markets and to analyze the pre and post crisis strength of linkages between them and their impact on stock market as a whole.
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4.1 Methodology
The study is done with special reference to relationship between the Asian stock markets and others after the Asian Financial Crisis. For the purpose, data from January 2005 to December 2009 from Malaysia (Kuala), Singapore (Strait), Philippines (Pse), Indonesia (Jakarta), China (Shanghai), Japan (Nikkie), Korea (Kospi), and the US (Dow) stock markets were mainly extracted. Three panels namely Panel A, Panel B and panel C containing different equity prices and their variances listed on the selected stock exchanges have been drawn. Simple random technique has been used, analytical and descriptive research design is been adopted which based on the secondary data collected from the websites, annual reports and journals, published periodicals, stock exchange and various other related sites. A composite sample, consisting of all the stocks is been used to construct panels and for the same the total samples are separated into three sub periods. First period is precrises period spanning from January 2005 to December 2007 denoted as panel A. Second period is during crises period spanning from January 2008 to December denoted by panel B and third period is post-crises period spanning from January 2009 to December 2009 denoted by Panel C. To interpreting the results Dickey-Fuller (ADF) unit root test, Phillips- Perron (PP) test and Granger- causality based on Vector Error Correction Model (VECM) are used.
condition here has been tested using the Dickey Fuller, Augmented Dickey Fuller and Philip-Peron unit root tests.
4.4 DickeyFuller Unit Root Test (DF Test)

In statistics, the DickeyFuller test tests whether a unit root is present in an autoregressive model. It is named after the statisticians D. A. Dickey and W. A. Fuller, who developed the test in 1979.). A simple AR (1) model is yt = ryt 1 + ut Where yt is the variable of interest, t is the time index, r is a coefcient, and ut is the error term. A unit root is present if | r | = 1. The model would be non-stationary in this case. The regression model can be written as yt = (r 1) yt 1 + ut = d yt 1 + ut Where is the rst difference operator
4.5 Augmented Dickey Fuller Test (ADF Test)

In statistics and econometrics, an Augmented Dickey Fuller test (ADF) is a test for a unit root in a time series sample. It constructs a parameter correction for higher order correlation, by adding lag difference of the time series. It is consists of a regression of the rst difference of the series against the series lagged once, lagged difference terms, and optionally, a constant and tie trend. Dyt = a + bt + g yt 1 + d1Dyt 1 + + dp Dyt p + et, Consequently, there are three main versions of the test which are as commonly used in Dickey Fuller unit root test (DF test) and in Augmented Dickey Fuller test (ADF test). Each version of the test has its own critical value which depends on the size of the sample. They are as: 1. Test for a unit root: yt = d yt 1 + ut 2. Test for a unit root with drift: yt = a0 + d yt 1 + ut 3. Test for a unit root with drift and deterministic time trend: yt = a0 + a1t + d yt 1 + ut
4.2 Tools Used for Analysis

In this study, for interpreting the results and to determine stationarity of the data series the statistical and econometric tools are been used. The very rst step is to examine the stationary of the variables. Further unit root test is applied to check the stationary of the series by using the DickeyFuller (DF) test, Augmented Dickey-Fuller (ADF) test. For robustness of unit root test results the series is also tested by using the Phillip- Perron (PP) test. Then the cointegration test (Engle-Granger cointegration test) is used to estimate the long run equilibrium relationship among the variables. Finally, Granger causality test is applied to test the short-run relationship between the stationary series which deals with nancial time series data.
4.3 Unit Root

Unit Root test is applied to check the stationary of the series (Gujarati, 2003; and Enders, 2005). The stationary
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4.6 Philip-Peron Test

In statistics, the Phillips- Perron test is a unit root test. It is used in time series analysis to test the null hypothesis that a time series is I (1). It builds on the Dickey- Filler test of the null hypothesis d = 0 in yt = d yt 1 + ut , where is the rst difference operator. It have certain advantages over other tests as PP test are robust to general forms of heterokdastcity in the error term ut, and also the user does not have to specify a lag length for the test regression. The Phillips-Perrons test allows the error disturbances to be weakly dependent and heterogeously distributed.
the time series of Asian stock markets and US stock Markets namely, Malaysia (Kuala), Singapore (Strait), Philippines (Pse), Indonesia (Jakarta), China (Shanghai), Japan (Nikkie), Korea (Kospi), and the US (Dow) stock markets. Xt = a0 + Sg jxt j + Sbj yt j + mxt Yt = a0 + Sg jxtj + Sb jytj + myt (1) (2)
5.1 Engle-Granger Cointegraon Test

Cointegration is an econometric property of time series variables. The basic purpose of the cointegration test is to determine whether a group of nonstationary series is cointegrated or not. Xt = b0 + b1 yt + mt Dvt = a1vt 1 + et (3) (4)
4.7 Granger Causality Test

Granger Causality test is a stastical hypothesis test based on prediction and widely applied to test the short-run relationship between the stationary series. It is a technique for analyzing whether one time series is useful in forecasting another. This concept has been widely recognized and used in econometrics literature. Its mathematical formulation generally based on linear regression theory to study of feedbook relationship between inputs and outputs variables. In this study causality is to be tested between weekly stock indexes values to determine the short-run relationship between
5.2 Correlaon Test

The Pearson Correlation test was used to nd the correlation between Asian stock markets and US stock Markets. It can indicate a predictive relationship that can be exploited in practice and can also suggest possible causal, or mechanistic relationships.
5. Analysis and Interpretaon

Table 1
Country ADF Level 1st Difference DF Level 1st Difference
ADF, DF and PP Test

PP Level 1st Difference
Calculated Value Panel A(Before) Dow Jakarta Kospi Kuala Nikkie Pse Shanghai Strait CV@1% CV@5% CV@10% 1.027404 2.222998 0.747378 2.078993 0.374132 1.155426 2.533486 0.747139 3.472534 2.879966 2.576674
Calculated Value 14.57762 13.92682 12.99211 12.85207 12.63108 11.62814 12.09338 12.47291 3.472813 2.880088 2.576739
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Table 2
Country ADF Level 1st Difference DF Level 1st Difference PP Level 1st Difference
Calculated Value Panel B(While) Dow Jakarta Kospi Kuala Nikkie Pse Shanghai Strait CV@1% CV@5% CV@10% 1.28099 0.86908 1.16135 0.350513 1.22367 0.69546 1.314002 0.79057 3.56543 2.91995 2.59791
Table 3
Country ADF Level 1st Difference DF Level 1st Difference PP Level 1st Difference
Calculated Value Panel C(After) Dow Jakarta Kospi Kuala Nikkie Pse Shanghai Strait CV@1% CV@5% CV@10% 1.41318 0.39213 0.47084 0.34681 1.59489 0.49853 0.209205 0.4383 3.53659 2.90766 2.5914
5.3 Interpretaon
After applying all the tests of unit root, viz, DF, ADF and PP tests it was found that the data series of GDP at FC, WPI and IIP are non-stationary at level. This conclusion is justied by the fact that the critical values at 5% level of signicance are greater than the calculated values of the data series which leads us to accept the null hypothesis i.e. all stock markets time series data have a unit root.
But all the series of data are found to be stationary at their rst difference where the calculated value is greater than the critical value which leads us to reject the null hypothesis and accept the alternative i.e. all stock markets time series data do not have a unit root. The non-stationary of the data indicates that the statistical properties do not like mean, variance etc. of the time series data of all GDP at FC, WPI and IIP are not constant. So the null hypothesis in
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all the units root tests DF,ADF and PP has been accepted at level as the critical value at 5% level of signicance is greater than the computed value in all the respective tests. Contrary to this, the null hypothesis in all the above unit root tests has been rejected at rst difference as the critical value is found to be smaller than the computed value in all the respective test. The stationary and the non-
stationary data help us in determining the short and long term relationship between the variables. The null hypothesis in all the stationary tests is that all GDP at FC, WPI and IIP have a unit root. The presence of unit root in the data series indicates its non-stationarity and its absence indicates stationarity.
5.4 Cointegraon Test

Table 4
Hypothesized No. of CE(s) Eigenvalue
Panel A: Pre-Crisis Results of Asian Stock Markets

Trace Statistic 0.05 Critical Value Prob.** Max-Eigen Statistic 0.05 Critical Value
None * At most 1 At most 2 At most 3 At most 4 At most 5 At most 6 *
0.239950 0.174208 0.123725 0.113952 0.088763 0.050145 0.027657
137.2585 95.00527 65.52775 45.18810 26.55650 12.24177 4.319170
125.6154 95.75366 69.81889 47.85613 29.79707 15.49471 3.841466
0.0080 0.0562 0.1048 0.0872 0.1129 0.1457 0.0377
42.25320 29.47752 20.33965 18.63160 14.31473 7.922596 4.319170
46.23142 40.07757 33.87687 27.58434 21.13162 14.26460 3.841466
Table 5
Panel A: Pre-Crisis Results of Asian & US Stock Markets

None * At most 1 * At most 2 * At most 3 At most 4 At most 5 At most 6 At most 7 *
0.283391 0.223203 0.197319 0.130210 0.113110 0.093070 0.051358 0.027121
191.4291 140.1125 101.2158 67.36682 45.88335 27.39799 12.35380 4.234294
159.5297 125.6154 95.75366 69.81889 47.85613 29.79707 15.49471 3.841466
0.0003 0.0048 0.0199 0.0772 0.0757 0.0923 0.1407 0.0396
51.31663 38.89671 33.84895 21.48347 18.48536 15.04419 8.119507 4.234294
52.36261 46.23142 40.07757 33.87687 27.58434 21.13162 14.26460 3.841466
Table 6
Panel B: During Crisis Results of Asian Stock Markets

None * At most 1 * At most 2 At most 3 At most 4 At most 5 At most 6
0.659298 0.568984 0.350878 0.298428 0.175844 0.146289 0.027181
148.0339 96.35000 55.95269 35.21026 18.19751 8.914522 1.322723
125.6154 95.75366 69.81889 47.85613 29.79707 15.49471 3.841466
0.0010 0.0455 0.3799 0.4369 0.5515 0.3733 0.2501
51.68388 40.39731 20.74243 17.01274 9.282993 7.591799 1.322723
46.23142 40.07757 33.87687 27.58434 21.13162 14.26460 3.841466
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Table 7
Panel B: During Crisis Results of Asian & US Stock Markets

None * At most 1 * At most 2 At most 3 At most 4 At most 5 At most 6 At most 7
0.785704 0.609206 0.518620 0.365177 0.329223 0.178363 0.102289 0.002408
209.8354 135.8964 90.79683 55.70412 33.89248 14.72522 5.295312 0.115746
159.5297 125.6154 95.75366 69.81889 47.85613 29.79707 15.49471 3.841466
0.0000 0.0101 0.1045 0.3900 0.5077 0.7976 0.7767 0.7337
73.93895 45.09959 35.09271 21.81164 19.16726 9.429908 5.179566 0.115746
52.36261 46.23142 40.07757 33.87687 27.58434 21.13162 14.26460 3.841466
Table 8
Panel C: Post-Crisis Results of Asian Stock Markets

None * At most 1 At most 2 At most 3 At most 4 At most 5 At most 6
0.634107 0.434889 0.339467 0.316446 0.145219 0.068611 0.003191
153.5469 94.22740 60.55419 36.08643 13.63988 4.382168 0.188547
125.6154 95.75366 69.81889 47.85613 29.79707 15.49471 3.841466
0.0003 0.0634 0.2187 0.3920 0.8602 0.8704 0.6641
59.31949 33.67321 24.46776 22.44655 9.257716 4.193621 0.188547
46.23142 40.07757 33.87687 27.58434 21.13162 14.26460 3.841466
Table 9
Panel C: Post-Crisis Results of Asian & US Stock Markets

None * At most 1 * At most 2 At most 3 At most 4 At most 5 At most 6 At most 7
0.634342 0.559546 0.378450 0.332643 0.220598 0.151572 0.072655 0.026688
190.1012 130.7439 82.36687 54.31007 30.44866 15.74420 6.046371 1.596009
159.5297 125.6154 95.75366 69.81889 47.85613 29.79707 15.49471 3.841466
0.0004 0.0235 0.2899 0.4482 0.6958 0.7301 0.6901 0.2065
59.35729 48.37702 28.05680 23.86141 14.70447 9.697824 4.450362 1.596009
52.36261 46.23142 40.07757 33.87687 27.58434 21.13162 14.26460 3.841466
5.5 Interpretaon
There exist long-term relationship between Asian stock markets and US stock markets.
As all the Eigen values are below 1 so the stock markets are stable and have effects on each other markets. There is strong long term relationship between stock markets of Asia and US after the crisis period.
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6. Granger Results
Table 10
Null Hypothesis
Panel A (Pre Crisis Period)

Obs F-Statistic Probability
1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. 13. 14. 15. 16. 17. 18. 19. 20. 21. 22. 23.
JAKARTA does not Granger Cause DOW DOW does not Granger Cause JAKARTA KOSPI does not Granger Cause DOW DOW does not Granger Cause KOSPI KUALA does not Granger Cause DOW DOW does not Granger Cause KUALA NIKKIE does not Granger Cause DOW DOW does not Granger Cause NIKKIE PSE does not Granger Cause DOW DOW does not Granger Cause PSE SHANGHAI does not Granger Cause DOW DOW does not Granger Cause SHANGHAI STRAIT does not Granger Cause DOW DOW does not Granger Cause STRAIT KOSPI does not Granger Cause JAKARTA JAKARTA does not Granger Cause KOSPI KUALA does not Granger Cause JAKARTA JAKARTA does not Granger Cause KUALA NIKKIE does not Granger Cause JAKARTA JAKARTA does not Granger Cause NIKKIE PSE does not Granger Cause JAKARTA JAKARTA does not Granger Cause PSE SHANGHAI does not Granger Cause JAKARTA JAKARTA does not Granger Cause SHANGHAI STRAIT does not Granger Cause JAKARTA JAKARTA does not Granger Cause STRAIT KUALA does not Granger Cause KOSPI KOSPI does not Granger Cause KUALA NIKKIE does not Granger Cause KOSPI KOSPI does not Granger Cause NIKKIE PSE does not Granger Cause KOSPI KOSPI does not Granger Cause PSE SHANGHAI does not Granger Cause KOSPI KOSPI does not Granger Cause SHANGHAI STRAIT does not Granger Cause KOSPI KOSPI does not Granger Cause STRAIT NIKKIE does not Granger Cause KUALA KUALA does not Granger Cause NIKKIE PSE does not Granger Cause KUALA KUALA does not Granger Cause PSE SHANGHAI does not Granger Cause KUALA KUALA does not Granger Cause SHANGHAI STRAIT does not Granger Cause KUALA KUALA does not Granger Cause STRAIT PSE does not Granger Cause NIKKIE
155 155 155 155 155 155 155 155 155 155 155 156 155 155 155 155 155 155 155 155 155 155 155
14.0953 0.11208 3.30748 3.49449 6.80793 1.76044 32.5656 2.07966 42.6531 1.11186 8.15762 8.99034 36.1628 0.30796 1.36519 27.3615 0.28308 38.6251 0.81177 3.85139 0.61936 5.93406 2.90498 8.19581 33.1207 4.49795 0.22864 0.33463 64.8663 2.56708 52.3644 0.67288 1.19294 3.65989 2.42488 1.36927 21.1980 1.69835 64.5927 3.27910 2.30669 0.47153 10.4385 1.55146 2.87002
2.5E-06 0.89405 0.03930 0.03286 0.00148 0.17550 1.8E-12 0.12856 2.2E-15 0.33164 0.00043 0.00021 1.5E-13 0.73541 0.25848 7.4E-11 0.75386 2.9E-14 0.44601 0.02338 0.53966 0.00331 0.05782 0.00042 1.2E-12 0.01267 0.79589 0.71613 5.0E-21 0.08013 5.6E-18 0.51177 0.30619 0.02806 0.09195 0.25745 7.8E-09 0.18648 5.8E-21 0.04038 0.10311 0.62497 5.7E-05 0.21532 0.05982
26

Null Hypothesis Obs F-Statistic

Probability
24. 25. 26. 27. 28.
NIKKIE does not Granger Cause PSE SHANGHAI does not Granger Cause NIKKIE NIKKIE does not Granger Cause SHANGHAI STRAIT does not Granger Cause NIKKIE NIKKIE does not Granger Cause STRAIT SHANGHAI does not Granger Cause PSE PSE does not Granger Cause SHANGHAI STRAIT does not Granger Cause PSE PSE does not Granger Cause STRAIT STRAIT does not Granger Cause SHANGHAI
155 155 155 155 155
0.82547 2.78515 7.05117 68.1080 0.66653 3.59127 6.36311 86.5297 0.16434 0.83299
0.44001 0.06491 0.00118 9.0E-22 0.51500 0.02996 0.00223 1.0E-25 0.84860 0.43675
6.1 Interpretaon
After applying the grangler causality test between Jakarta and Dow. It was found that there is a unidirectional causality between the two stock indices. The calculated value in the rst null hypothesis was greater than the tabulated value i.e. calculated value is 14.0953 and tabulated value is 2.5, which leads us to reject this null hypothesis and except its alternative. The second null hypothesis is excepted because the calculated value is less than the tabulated value i.e. calculated value is 0.11208 and tabulated value is 2.5. So it is concluded that the grangler causality test between Jakarta and Dow is unidirectional and runs from Jakarta to Dow. After applying the grangler causality test between Kospi and Dow. It was found that there is a bilateral causality between the two stock indices. The calculated value in the rst null hypothesis was greater than the tabulated value i.e. calculated value is 3.30748 and tabulated value is 2.5, which leads us to reject this null hypothesis and except its alternative. The second null hypothesis is also rejected because the calculated value is greater than the tabulated value i.e. calculated value is 3.49449 and tabulated value is 2.5. So it is concluded that the grangler causality test between Kospi and Dow is bilateral and runs from Kospi to Dow and vice versa. After applying the grangler causality test between Kuala and Dow. It was found that there is a unidirectional causality between the two stock indices. The calculated value in the rst null hypothesis was greater than the tabulated value i.e. calculated value is 6.80793 and tabulated value is 2.5, which leads us to reject this null hypothesis and except its alternative. The second null hypothesis is excepted because the calculated value is less than
the tabulated value i.e. calculated value is 1.76044 and tabulated value is 2.5. So it is concluded that the grangler causality test between Kuala and Dow is unidirectional and runs from Kuala to Dow. After applying the grangler causality test between Nikkie and Dow. It was found that there is a unidirectional causality between the two stock indices. The calculated value in the rst null hypothesis was greater than the tabulated value i.e. calculated value is 32.5656 and tabulated value is 2.5, which leads us to reject this null hypothesis and except its alternative. The second null hypothesis is excepted because the calculated value is less than the tabulated value i.e. calculated value is 2.07966 and tabulated value is 2.5. So it is concluded that the grangler causality test between Nikkie and Dow is unidirectional and runs from Nikkie to Dow. After applying the grangler causality test between Pse and Dow. It was found that there is a unidirectional causality between the two stock indices. The calculated value in the rst null hypothesis was greater than the tabulated value i.e. calculated value is 42.6531 and tabulated value is 2.5, which leads us to reject this null hypothesis and except its alternative. The second null hypothesis is excepted because the calculated value is less than the tabulated value i.e. calculated value is 1.11186 and tabulated value is 2.5. So it is concluded that the grangler causality test between Pse and Dow is unidirectional and runs from Pse to Dow. After applying the grangler causality test between Shanghai and Dow. It was found that there is a bilateral causality between the two stock indices. The calculated value in the rst null hypothesis was greater than the tabulated value i.e. calculated value is 8.15762 and tabulated value is 2.5, which leads us to reject this null hypothesis and except its alternative.
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The second null hypothesis is also rejected because the calculated value is greater than the tabulated value i.e. calculated value is 8.99034 and tabulated value is 2.5. So it is concluded that the grangler causality test between Shanghai and Dow is bilateral and runs from Shanghai to Dow and vice versa. After applying the grangler causality test between Strait and Dow. It was found that there is a unidirectional causality between the two stock indices. The calculated value in the rst null hypothesis was greater than the tabulated value i.e. calculated value is 36.1628 and tabulated value is 2.5, which leads us to reject this null hypothesis and except its alternative. The second null hypothesis is excepted because the calculated value is less than the tabulated value i.e. calculated value is 0.30796 and tabulated value is 2.5. So it is concluded that the grangler causality test between Strait and Dow is unidirectional and runs from Starit to Dow. After applying the grangler causality test between Kospi and Jakarta. It was found that there is a unidirectional causality between the two stock indices. The calculated value in the rst null hypothesis was less than the tabulated value i.e. calculated value is 1.36519 and tabulated value is 2.5, which leads us to accept this null hypothesis and reject its alternative. The second null hypothesis is rejected because the calculated value is greater than the tabulated value i.e. calculated value is 27.3615 and tabulated value is 2.5. So it is concluded that the grangler causality test between Kospi and Jakarta is unidirectional and runs from Jakarta to Kospi. After applying the grangler causality test between Kuala and Jakarta. It was found that there is a unidirectional causality between the two stock indices. The calculated value in the rst null hypothesis was less than the tabulated value i.e. calculated value is 0.28308 and tabulated value is 2.5, which leads us to accept this null hypothesis and reject its alternative. The second null hypothesis is rejected because the calculated value is greater than the tabulated value i.e. calculated value is 38.6251 and tabulated value is 2.5. So it is concluded that the grangler causality test between Kuala and Jakarta is unidirectional and runs from Jakarta to Kuala. After applying the grangler causality test between Nikkie and Jakarta. It was found that there is a unidirectional causality between the two stock
indices. The calculated value in the rst null hypothesis was less than the tabulated value i.e. calculated value is 0.81177 and tabulated value is 2.5, which leads us to accept this null hypothesis and reject its alternative. The second null hypothesis is rejected because the calculated value is greater than the tabulated value i.e. calculated value is 3.85139 and tabulated value is 2.5. So it is concluded that the grangler causality test between Nikkie and Jakarta is unidirectional and runs from Jakarta to Nikkie. After applying the grangler causality test between Pse and Jakarta. It was found that there is a unidirectional causality between the two stock indices. The calculated value in the rst null hypothesis was less than the tabulated value i.e. calculated value is 0.61936 and tabulated value is 2.5, which leads us to accept this null hypothesis and reject its alternative. The second null hypothesis is rejected because the calculated value is greater than the tabulated value i.e. calculated value is 5.93406 and tabulated value is 2.5. So it is concluded that the grangler causality test between Pse and Jakarta is unidirectional and runs from Jakarta to Pse. After applying the grangler causality test between Shanghai and Jakarta. It was found that there is a bilateral causality between the two stock indices. The calculated value in the rst null hypothesis was greater than the tabulated value i.e. calculated value is 2.90498 and tabulated value is 2.5, which leads us to reject this null hypothesis and except its alternative. The second null hypothesis is also rejected because the calculated value is greater than the tabulated value i.e. calculated value is 8.19581 and tabulated value is 2.5. So it is concluded that the grangler causality test between Shanghai and Jakarta is bilateral and runs from Shanghai to Jakarta and vice versa. After applying the grangler causality test between Strait and Jakarta. It was found that there is a bilateral causality between the two stock indices. The calculated value in the rst null hypothesis was greater than the tabulated value i.e. calculated value is 33.1207 and tabulated value is 2.5, which leads us to reject this null hypothesis and except its alternative. The second null hypothesis is also rejected because the calculated value is greater than the tabulated value i.e. calculated value is 4.49795 and tabulated value is 2.5. So it is concluded that
28
the grangler causality test between Strait and Jakarta is bilateral and runs from Strait to Jakarta and vice versa. After applying the grangler causality test between Kuala and Kospi. It was found that there is a unidirectional causality between the two stock indices. The calculated value in the rst null hypothesis was less than the tabulated value i.e. calculated value is 0.22864 and tabulated value is 2.5, which leads us to accept this null hypothesis and reject its alternative. The second null hypothesis is also accepted because the calculated value is less than the tabulated value i.e. calculated value is 0.33463 and tabulated value is 2.5. So it is concluded that the grangler causality test between Kuala and Kospi has no effect on each other. After applying the grangler causality test between Nikkie and Kospi. It was found that there is a bilateral causality between the two stock indices. The calculated value in the rst null hypothesis was greater than the tabulated value i.e. calculated value is 64.8663 and tabulated value is 2.5, which leads us to reject this null hypothesis and except its alternative. The second null hypothesis is also rejected because the calculated value is greater than the tabulated value i.e. calculated value is 2.56708 and tabulated value is 2.5. So it is concluded that the grangler causality test between Nikkie and Kospi
is bilateral and runs from Nikkie to Kospi and vice versa. After applying the grangler causality test between Pse and Kospi. It was found that there is a unidirectional causality between the two stock indices. The calculated value in the rst null hypothesis is greater than the tabulated value i.e. calculated value is 52.3644 and tabulated value is 2.5, which leads us to reject this null hypothesis and accept its alternative. The second null hypothesis is accepted because the calculated value is less than the tabulated value i.e. calculated value is 0.67288 and tabulated value is 2.5. So it is concluded that the grangler causality test between Pse and Kospi is unidirectional and runs from Pse to Kospi. After applying the grangler causality test between Shanghai and Kospi. It was found that there is a unidirectional causality between the two stock indices. The calculated value in the rst null hypothesis was less than the tabulated value i.e. calculated value is 1.19294 and tabulated value is 2.5, which leads us to accept this null hypothesis and reject its alternative. The second null hypothesis is rejected because the calculated value is greater than the tabulated value i.e. calculated value is 3.65989 and tabulated value is 2.5. So it is concluded that the grangler causality test between Shanghai and Kospi is unidirectional and runs from Kospi to Shanghai.
Table 11 Panel B (While the Crisis Period)

Null Hypothesis Obs F-Statistic Probability
JAKARTA does not Granger Cause DOW DOW does not Granger Cause JAKARTA KOSPI does not Granger Cause DOW DOW does not Granger Cause KOSPI KUALA does not Granger Cause DOW DOW does not Granger Cause KUALA NIKKIE does not Granger Cause DOW DOW does not Granger Cause NIKKIE PSE does not Granger Cause DOW SHANGHAI does not Granger Cause DOW DOW does not Granger Cause SHANGHAI STRAIT does not Granger Cause DOW DOW does not Granger Cause STRAIT KOSPI does not Granger Cause JAKARTA JAKARTA does not Granger Cause KOSPI KUALA does not Granger Cause JAKARTA
50 1.41980 50 1.58777 50 0.52002 50 1.12299 50 49 0.55536 50 1.21275 50 2.25666 50
3.16118 0.25238 8.75606 0.21562 4.52379 0.59804 2.82400 0.33425 8.52103 0.23733 0.57783 5.21103 0.30691 0.02128 0.11642 0.27620
0.05193 0.00061 0.01621 0.06992 0.00073 0.78973 0.00921 0.97896 0.75994

Null Hypothesis Obs F-Statistic Probability
29
JAKARTA does not Granger Cause KUALA NIKKIE does not Granger Cause JAKARTA JAKARTA does not Granger Cause NIKKIE PSE does not Granger Cause JAKARTA JAKARTA does not Granger Cause PSE SHANGHAI does not Granger Cause JAKARTA JAKARTA does not Granger Cause SHANGHAI STRAIT does not Granger Cause JAKARTA JAKARTA does not Granger Cause STRAIT KUALA does not Granger Cause KOSPI KOSPI does not Granger Cause KUALA NIKKIE does not Granger Cause KOSPI KOSPI does not Granger Cause NIKKIE PSE does not Granger Cause KOSPI KOSPI does not Granger Cause PSE SHANGHAI does not Granger Cause KOSPI KOSPI does not Granger Cause SHANGHAI STRAIT does not Granger Cause KOSPI KOSPI does not Granger Cause STRAIT NIKKIE does not Granger Cause KUALA KUALA does not Granger Cause NIKKIE PSE does not Granger Cause KUALA KUALA does not Granger Cause PSE SHANGHAI does not Granger Cause KUALA KUALA does not Granger Cause SHANGHAI STRAIT does not Granger Cause KUALA KUALA does not Granger Cause STRAIT PSE does not Granger Cause NIKKIE NIKKIE does not Granger Cause PSE SHANGHAI does not Granger Cause NIKKIE NIKKIE does not Granger Cause SHANGHAI STRAIT does not Granger Cause NIKKIE NIKKIE does not Granger Cause STRAIT SHANGHAI does not Granger Cause PSE PSE does not Granger Cause SHANGHAI STRAIT does not Granger Cause PSE PSE does not Granger Cause STRAIT STRAIT does not Granger Cause SHANGHAI SHANGHAI does not Granger Cause STRAIT
7.67502 50 3.98740 50 0.19223 49 0.19029 50 2.85233 50 0.53479 50 0.02342 50 2.39305 49 0.09410 50 0.09250 50 2.71536 50 0.49247 49 1.04235 50 0.96416 50 0.49676 49 0.76225 50 0.42431 49 1.19141 50 5.64387 49 3.45293
0.00136 0.37635 0.02545 8.15137 0.82579 1.11722 0.82739 0.15583 0.06819 1.95190 0.58947 0.63303 0.97687 7.76588 0.10288 3.95107 0.91038 1.11910 0.91183 0.18832 0.07703 12.2504 0.61437 4.47894 0.36117 0.41807 0.38904 13.3379 0.61180 1.51260 0.47268 0.43426 0.65681 1.00017 0.31340 0.99600 0.00650 0.85009 0.04046
0.68850 0.00095 0.33629 0.85617 0.15384 0.53564 0.00127 0.02642 0.33549 0.82900 5.7E-05 0.01696 0.66085 2.8E-05 0.23157 0.65043 0.37602 0.37735 0.43428
6.2 Interpretaon
There is not seen any signicant relationship between various stock markets during the post crisis period. There has not been seen any bilateral causality be-
tween any of the pair of stock markets of Asia and US Stock markets. There is strong causality from Pse to Kuala and Pse to Nikkie during the crisis period through the results as both the Null Hypothesis is rejected of the same stock markets.
30
Table 12 Panel C (Post Crisis Period)

Null Hypothesis: Obs F-Statistic Probability
JAKARTA does not Granger Cause DOW DOW does not Granger Cause JAKARTA KOSPI does not Granger Cause DOW DOW does not Granger Cause KOSPI KUALA does not Granger Cause DOW DOW does not Granger Cause KUALA NIKKIE does not Granger Cause DOW DOW does not Granger Cause NIKKIE PSE does not Granger Cause DOW DOW does not Granger Cause PSE SHANGHAI does not Granger Cause DOW DOW does not Granger Cause SHANGHAI STRAIT does not Granger Cause DOW DOW does not Granger Cause STRAIT KOSPI does not Granger Cause JAKARTA JAKARTA does not Granger Cause KOSPI KUALA does not Granger Cause JAKARTA JAKARTA does not Granger Cause KUALA NIKKIE does not Granger Cause JAKARTA JAKARTA does not Granger Cause NIKKIE PSE does not Granger Cause JAKARTA JAKARTA does not Granger Cause PSE SHANGHAI does not Granger Cause JAKARTA JAKARTA does not Granger Cause SHANGHAI STRAIT does not Granger Cause JAKARTA JAKARTA does not Granger Cause STRAIT KUALA does not Granger Cause KOSPI KOSPI does not Granger Cause KUALA NIKKIE does not Granger Cause KOSPI KOSPI does not Granger Cause NIKKIE PSE does not Granger Cause KOSPI KOSPI does not Granger Cause PSE SHANGHAI does not Granger Cause KOSPI KOSPI does not Granger Cause SHANGHAI STRAIT does not Granger Cause KOSPI KOSPI does not Granger Cause STRAIT NIKKIE does not Granger Cause KUALA KUALA does not Granger Cause NIKKIE PSE does not Granger Cause KUALA KUALA does not Granger Cause PSE SHANGHAI does not Granger Cause KUALA KUALA does not Granger Cause SHANGHAI STRAIT does not Granger Cause KUALA KUALA does not Granger Cause STRAIT PSE does not Granger Cause NIKKIE NIKKIE does not Granger Cause PSE SHANGHAI does not Granger Cause NIKKIE
62 0.13697 63 1.32283 63 0.21703 63 1.62935 63 1.63801 60 3.31666 63 1.79242 62 8.35504 62 10.8350 62 11.5086 62 13.6850 60 4.32242 62 32.1890 63 2.28645 63 2.84945 63 0.45069 60 4.62226 63 1.92235 63 3.82748 63 5.90585 60 2.68377 63 6.09301 63 0.36478 60
7.64928 0.87228 4.00860 0.27430 5.28417 0.80556 3.75694 0.20490 2.41268 0.20323 2.50325 0.04366 1.39668 0.17566 1.66318 0.00066 1.58799 0.00010 3.89583 6.3E-05 0.26847 1.4E-05 3.87392 0.01805 0.05988 4.4E-10 7.84250 0.11072 0.85991 0.06601 4.13729 0.63940 8.15909 0.01395 3.94727 0.15547 2.28416 0.02746 0.20092 0.00463 4.36020 0.07725 0.63642 0.00396 2.63180 0.69593 7.68046
0.00114 0.02341 0.00780 0.02922 0.09851 0.09110 0.25561 0.19860 0.21324 0.02595 0.76551 0.02667 0.94194 0.00097 0.42853 0.02091 0.00079 0.02470 0.11095 0.81855 0.01747 0.53284 0.08053 0.00114

Null Hypothesis: Obs F-Statistic Probability
31
NIKKIE does not Granger Cause SHANGHAI STRAIT does not Granger Cause NIKKIE NIKKIE does not Granger Cause STRAIT SHANGHAI does not Granger Cause PSE PSE does not Granger Cause SHANGHAI STRAIT does not Granger Cause PSE PSE does not Granger Cause STRAIT STRAIT does not Granger Cause SHANGHAI SHANGHAI does not Granger Cause STRAIT
2.61384 63 1.61503 60 5.22861 63 4.59997 60 2.04317
0.08233 3.56160 0.20770 2.90646 0.00834 0.00112 0.01399 4.24827 0.13934
0.03476 0.06311 0.99888 0.01925
6.3 Interpretaon
There is bilateral relationship between Shanghai and Kuala. They both have long term relationship among themselves during the post crisis period. There is also relationship between Shanghai and Pse as their Bothe null hypothesis are rejected. It has also been seen through the results that Strait stock market has impact on almost all the other Asian stock markets.
arithmetical calculation which base on window dressed presentation of books of accounts. Thus investors have to develop their sense and have to judge the market movement minutely before they make a choice from available alternatives. They (investors) have to become market movement, governing rules and regulation literate and have to develop knowledge about the tests and tools and their purpose of implementation to analyze the result if want to protect their investment from market gambling. Only information of stock market is not enough for the purpose. Before investing in any alternative one should know their objective and risk appetite. They must have ability to study fundamental analysis like ratio and balance sheet if they want to avail advantage and must invest for long run. Before making any investment one must go through the published reports of the industry/ company and also check the date of publishing the reports, for which the report is been published. Weather it is for FIIs, or common investors. Companies and stock market presentation and interpretation should be simple so that it can be understood to everyone easily. While making any investment decision one should not rely on fund manager but give time to understand him and then discuss about the future plans from making any investment. Plan should be exible and can be adjusted according to unforeseen future.
7. Findings
It has been seen that Asian stock markets has impact on each other strongly but US stock market does not have impact on all the Asian markets. There is strong relationship between various stock markets. Some of the stock markets have strong impact than other markets. There exists strong impact of Strait on Pse which is in short term and in before crisis. The Shanghai and Nikkie has impact during the post crisis period. It is been seen that Jakarta has strong impact on various other stock markets during the post crisis period. It is also been seen that the one stock market has effect on other stock markets. There is effect between various stock markets in long term and short term during, while and after the crisis.
8. Recommendaons
To study the movements, one has to be condent and never get inuenced by sentiments as present stock market work on confuse and corrupt market hypothesis and is unpredictable. All the available information are outcome of statically and
9. Conclusions
This study attempts to examine the linkages between the Asian and the US stock markets. The empirical analysis of this study begins with the ADF and PP stationarity tests in order to determine at which level the data exhibit stationarity; this is done for the purpose of co integration analysis.
32
Empirical results show that the long-run relationships between Asian stock markets occur only for during- and post-crisis period. For the pre-crisis period, there are no signicant cointegrating vectors among the Asian stock markets. This result shows that the Asian stock markets are more independent before the crisis. The number of co integrating vectors increased after the US stock market was included in pre-crisis and during-crisis periods. This implies that the system is more interdependent during these two periods. Therefore, adding the US stock market does not help the investors to reduce the portfolio risk. The results of short-run Granger-causality based on VECM showed that Thailand, Japan and China stock markets are the most exogenous markets before, during and after the crisis respectively.
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Revisiting the Principles of Gharar (Uncertainty) in Islamic Banking Financing Instruments with Special Reference
33
Revisiting the Principles of Gharar (Uncertainty) in Islamic Banking Financing Instruments with Special Reference to Bay Al-Inah and Bay AlDayn Towards a New Modied Model1
Siti Salwani Razali*
Abstract One of the signicant features of Islamic banking is the elimination of riba and gharar. However many problems arise in some of Islamic banking nancing instruments when they are claimed to contain signicant elements of gharar thus held unacceptable in certain Muslim countries. Among these instruments are Bay al-Inah and Bay al-Dayn. Currently, Bay al-Inah is not accepted in some countries such as the Middle East countries as it is regarded as part of interest-based transaction. However, in Malaysia, Bay al-Inah has been formalised as a permissible practice and is has emerged as the most important mode of transactions that stimulates the growth of Islamic transaction in Malaysia, which nally comes across the globe to be among the most successful Muslim state in the development of Islamic Finance. On the other hand, Bay al-dayn or the sale of debt is not unanimously accepted or validated by Muslim scholars. Even though some scholars allow it in all forms and aspects, the others either disallow it entirely or allow it under certain circumstances and with certain clauses or conditions.The paper will discuss at length on both contracts and the legal implications of the presence of gharar on the validity of these contracts. The views from the jurists will be critically examined to revisit the existence of gharar especially in these two Islamic banking instruments namely bay al-dayn and bay al-inah. Keywords: Islamic Financial Instruments, Contracts, Gharar (Uncertainty), Bay al-Inah and Bay al-Dayn, Islamic Banking Products
1. Introducon
Gharar is an Arabic term which literally means uncertainty, ambiguity, risk, danger or peril2. Technically, Gharar refers to uncertainty in a contract that may lead to unknown consequences or results, whereby one or both parties to the contract suffer injustice.3 Gharar is synonymous with al khida or fraud.4 Mohammed Obaidullah states that Islamic scholars have broadly dened gharar in two ways: First, gharar implies uncertainty. Second, it implies deceit.5 Sami Al Suwailem refers to a gharar transaction as equivalent to a zero-sum game with uncertain payoffs.6 The founders of the various schools of Islamic thought have dened gharar in the following words:7 Hanathat whose consequences are hidden Shaithat whose nature and consequences are hidden or that which admits two possibilities, with the less desirable one being more likely Hanbalithat whose consequences are unknown or that which is undeliverable, whether it exists or not. A major factor that contributes to the existence of gharar is inadequate information which increases uncertainty. This occurs when elements and sub-elements of the contract are either absent or not well dened. For instance, gharar may occur when the subject matter of a contract is nonexistent, not in possession of the owner, not deliverable,
* Siti Salwani Razali, Associate Professor, Department of Business Administration, Kulliyyah of Economics & Management Science, International Islamic University, Kuala Lumpur, Malaysia 1 This paper is an extended version of the paper which have been presented in the 6th International Islamic Finance Conference at J.W Marriot Hotel Kuala Lumpur in October 14th,2008.
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not clearly dened, etc.; if the consideration or price is not clearly stipulated, etc. Mohammed Obaidullah categorizes the expositions of gharar into the following:8 various
In a commercial transaction, Gharar may be been divided into three type as follows:9 (a) Excessive Gharar (al-Gharar al-kathir) concerning the subject matter of sale i.e., sale in which the price or the subject matter are unknown, sales in which delivery is not attainable will render the transaction invalid. According to Al-Sanhuri, the contract contains excessive Gharar when the subject matter neither exist at the time of contract nor in its essence as well as in the future. (b) Triing Gharar (al-Gharar al-yasir) is tolerated and permissible. Al-Sanhuri is of the view that this type of Gharar exists when the subject matter is only available in essence and came into completion thereafter or when the subject matter, although non-existent at the time of contract but was certain to exist in the future are considered negligible. For example, the sale of sh in a small pond or the sale of bird in a conned space. (c) Average Gharar (al-Gharar al-mutawassit) which falls between the two extremes may be judged differently under different circumstances. In evaluation of Gharar, whether excessive or triing, the jurists have been inuenced by the prevailing circumstances, popular custom and their own vision and interpretation of public good or maslahah. Depending on its scale and magnitude, Gharar may render a contract totally null and void, or it may constitute the basis of indemnity and compensation.10 Malik dene Bay al-ghrr, explicitly as aleatory transaction. Bay al-ghrr, according to him can be dened as a sale of an object which is not present so that the quality being good or bad is not known to the buyer. These
Settlement Riskwherein the subject matter of sale is non-existent, i.e. the seller does not have possession of the object of sale and thus delivery of the same to the buyer is uncertain, thus rendering the contract unsettled. Inadequacy and Inaccuracy of Information wherein critical information pertaining to the price, subject matter, date of delivery, etc. is unknown or inadequate; also where such critical information is inaccurate due to deliberate withholding of the same by either party in an attempt to deceive or commit fraud. Ill intentions and evil motives, thus, also constitute gharar. Complexity in Contractswherein a single contract is made up of two or more interdependent contracts leading to conditionality in the contract which renders it uncertain and ambiguous. Pure Games of Chancewherein gharar occurs due to the uncertainty in events or consequences of the gamble. Whilst riba is strictly prohibited in the Quran, there is no such explicit prohibition of gharar. Although the Quran does not explicitly mention the prohibition of gharar contracts, various hadith of the Prophet (s.a.w.) indicate the need to avoid gharar in contracts. Some amount of gharar or uncertainty is, however, tolerable. The gharar that causes a contract to be invalid is major gharar i.e. an uncertainty which is so great that it becomes unacceptable or it is so vague that there is no means of quantifying it.
2 3
Muhammad Yusuf Saleem, A Handbook on Fiqh for Economists II, p.8 Muhammad Yusuf Saleem, A Handbook on Fiqh for Economists II, p.8 4 Mohammad Hashim Kamali, Uncertainty And Risk-Taking (Gharar) In Islamic Law, Law Journal, Vol. 7, No. 2, 1998, International Islamic University Malaysia, Kuala Lumpur, Malaysia 5 Muhammed Obaidullah, Islamic Financial Services, p. 41, http://islamiccenter.kau.edu.sa/english/publications/Obaidullah/ifs/ ifs.html 6 Sami Al Suwailem, Towards an Objective Measure of Gharar in Exchange, p. 1, http://www.isu.ac.ir/Farsi/Academics/Economics/edu/dlc/2rd/02/instructor/MeasureofGharar.pdf 7 Islamic Laws on Trading, http://ozrisk.net/2006/11/08/islamic-laws-on-trading/ 8 Muhammed Obaidullah, Islamic Financial Services, p. 42-47, http://islamiccenter.kau.edu.sa/english/publications/Obaidullah/ ifs/ifs.html 9 Uncertainty and Risk Taking in Islamic law, International Conference on Takaful, July 1999, Mohammad Hashim Kamali 10 Contracts in Islamic commercial and their application in modern Islamic nancial system, http://www.islamic-world.net
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are sales where there is an element of chance. Aleatory sales are common in pre-Islamic times. Eventually, the transaction of al-ghrr is reported to have been banned by the Prophet. Whereas according to Ibn Manzur, ghrr literally means danger whereby according to al-Qura in his book ghrr also means khadiah that is cheating.11 The implication of the prohibition of gharar is that it ensures justice and fairness to all contracting parties, thus avoiding disputes and disagreements between them. The Quran states in Surah al Nisa, O you who believe! Eat not up your property among yourselves unjustly except it be a trade amongst you, by mutual consent [Surah al Nisa, verse 29] Exhibit 2.1
2. Bay Al Inah
In laymans terms, it refers to a contract that involves a simultaneous sale and buyback or repurchase. In a more technical denition, Bay al Inah refers to a sale of an asset, which is later repurchased at a different price, whereby the deferred price is higher than the cash price.12 Imam Shai denes it as a credit purchase of an asset which is later sold to the original owner or a third party, whether at a deferred or spot, higher or lower price than the rst contract or for an exchange of goods.13 Al Haska denes it as a deferred sale of an asset with a motive to generate prot. The debtor, then, resells the asset to the original seller at a lower price in order to settle his debt.14
BBA-Murabaha Financing Structure II
11
Some jurists like Qadi Ayad said originally gharar is something that supercially shows what you like but actually you hate it. That is why it is said that al dunya mata al ghurur ( the worldly life is mere illusion. manipulated without actual awareness of the property being implicated. Taken from the book Al-Qura, al-Furuq, 3 Beirut, Dar al kr(1973) p266 12 Shariah Resolutions in Islamic Finance, p. 64, http://www/mifc.com/0909_shariahres.htm 13 Imam Sha, Al Um, v.3, Dar al Fikr, Beirut, p. 79 14 Al Haska, Al Durr al Mukhtar Sharh Tanwir al Absar, v.5, Dar al Fikr, Beirut, p.325
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For instance, if Abdullah wishes to buy a house worth $150,000, ordinarily under a Murabaha scheme he would approach the Bank who in turn would approach the Vendor of the house. The Bank would purchase the house from the Vendor for $150,000 cash and sell it to Abdullah on a deferred basis for a cost-plus-markup amount, say $200,000. The difference between the two prices is the prot amount realized by the Bank, i.e. $50,000. The following is an illustration of the Murabaha or BBA contract15: In a Bay al Inah contract, however, the Vendor is eliminated and both contracts take place between Abdullah and Exhibit 2.2
the Bank resulting merely in debt creation with no real exchange or transfer of assetsAbdullah sells an asset to the Bank for $150,000 on cash basis and the Bank sells the same asset back to him for $200,000 on deferred basis. This asset may be anything whose real value may or may not be the same as the sale or purchase price. Abdullah may then use the cash proceeds of $150,000 to buy the house he wanted. The structure of the contract, thus, renders it akin to a conventional loan facility where the prot earned from the spread between the cash and deferred prices is indistinguishable from interest or riba. The following is an illustration of a Bay al Inah contract and how it resembles a conventional loan contract:16
Structure of Repurchase
Exhibit 2.3
Structure of Interest-Based Loan
15
Muhammed Obaidullah, Islamic Financial Services, p. 70, http://islamiccenter.kau.edu.sa/english/publications/Obaidullah/ifs/ ifs.html 16 Muhammed Obaidullah, Islamic Financial Services, p. 104, http://islamiccenter.kau.edu.sa/english/publications/Obaidullah/ ifs/ifs.html
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The earlier section established that deceit also constitutes gharar. Thus, the element of uncertainty or gharar in Bay al Inah contracts is the ambiguity relating to the motives of the contracting parties which are deemed fraudulent. Generally speaking, if the parties have the intention to enter into a contract and all the conditions regarding offer and acceptance, competence of the parties, subject matter, and mutual consent are met, the contract is deemed to be valid. But the cause for concern arises when all the apparent conditions are met, but the motive behind contracting is unlawful i.e. there is a conict between the objective of contract or muqtada al aqd and the actual motive. Thus, in the contract of Bay al Inah we nd that there is uncertainty with respect to the true nature or objective of the contract entered into. Bay al Inah undermines the intention and the objective to contract. Ibn Umar said that he heard the Prophet (s.a.w.) say when you enter into the inah transaction, hold the tails of oxen, are pleased with agriculture, and give up conducting jihad, Allah will make disgrace prevail over you, and will not withdraw it until you return to your original religion.17 The scholars viewpoints on the permissibility and validity of Bay al Inah contracts are divergent. According to the Shai school of thought, intentions and motives dont determine the validity or otherwise of a contract. If the elements of the contract such as offer and acceptance, subject matter, capacity, consideration, etc. are met then all else is insignicant. Intention or motive would only matter if it is explicitly stated in the contract. The Maliki, Hana and Hanbali jursists, on the other hand, are of the view that Bay al Inah is inherently an invalid contract. They are of the opinion that one of the crucial determinants of legality is the motive or intention of the contracting parties, as to why they are entering into a particular contract. Any contract which employs a legal device, i.e. hilah, is deemed invalid and nullied. Thus, Ijma or consensus holds that Bay al Inah is an invalid contract. Of concern are some qawaid qhiyyah, i.e. legal maxims or rules which address various issues and questions of
17 18
jurisprudence, such as Matters are determined according to intention and In contracts effect is given to intention and meaning and not words and forms.18 These maxims obviously rule out the validity of Bay al Inah contracts which, on paper, have all the elements of a valid contract but in essence are devoid of sincerity and veracity. Currently, Bay al-Inah is not accepted in some countries such as the Middle East countries as it is regarded as part of interest-based transaction.19 Some of the scholars questioned the validity of Inah as it contained the element of riba which deviates from the true objective of Shariah. Another issue arises is to prevent the combining of two sales of the same object between the same counterparties. The issue here is that the time and price differential is a mean of synthesizing a loan at interest. This is the concept of bay al-inah and it is forbidden by the majority of Islamic scholars who believe that the prot differential constitutes the forbidden riba. A large number of scholars have gone on to ban the combining of two contracts in a single contract. In fact, this is less clearly an issue if the joining of the two contracts does not result in observable or disguised riba.20 However, in Malaysia, Bay al-Inah has been formalized as a permissible practice. The Malaysian has experienced in adopting the concept of bay al-Inah in Malaysian Islamic Banking and Bay al-Inah is perhaps among the most important mode of transactions that stimulates the growth of Islamic transaction in Malaysia, which nally comes across the globe to be the most successful Muslim country in Islamic Finance. On 29 January 1997, the Shariah Advisory Council of Securities Commission of Malaysia passed a resolution that allows the usage of Inah in the Malaysian capital market since the Shai and Zahiri mashed viewed Inah as permissible. A contract valued by what is disclosed and ones intention was up to Allah to judge. They criticized the hadith used by the majority of the Islamic jurists as the basis for their argument, saying that the hadith was weak and therefore could not be used as the basis for the judgments.
Sunan Abu Dawud, Hadith # 3455 The 99 Sharia Maxims, http://islamic-world.net/economics/99_sharia_maxims.html 19 BNM Islamic Products Information Kit, pg 3. 20 Abdulkader S. Thomas, Stella Cox, Bryan Kraty, Structuring Islamic Finance Transactions
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The requirements for Bay al-Inah objects and all forms of installment credit sales, murabaha, and bay bithaman ajil as well such as they must exist in corporeal forms, must be owned by the sellers, must be permissible and used in a permissible manner, they must be lien free, they must be specic and they must not be one of the specic ribawi items (currencies, gold, solver, wheat, barley, dates and salt).
The debtor may be in a position where he would need to trade his debt with another party. For instance, Ibrahim may purchase goods worth $100,000 from Luqman who is then indebted to the former for that amount. Ibrahim may choose to trade the debt owed to him by Luqman with the debt that he owes Abdullah. The appropriate contract here would be Hawalah al Dayn i.e. the transfer of debt by the principal debtor, with express permission from the principal creditor, to another party who then becomes responsible for repaying the principal creditor.23 Similarly, the following are some of the possible reasons that may compel the creditor to engage in the trading of debt: 1. He may owe someone a debt and would like to use the debt owed to him to settle the former 2. He may need to purchase something and would like to use the debt due to him as price for that thing For any of the above mentioned reasons, Abdullah may engage in debt trading with the debtor Ibrahim himself. He may also choose instead to contract with a third party, say, Sulaiman. Again the appropriate contract would be Hawalah. If he sells the debt to a third party, it would amount to Hawalah al Haqq i.e. transfer of right whereby the creditor transfers his right to the debt from the principal debtor to the new creditor/seller.
3. Bay Al Dayn
In Fiqh, dayn refers to a debt which comes into existence as a result of commitment to pay later. It is incurred by way of rent, sale, purchase, marriage, etc., which leaves an obligation on an individual or an organization.21 The debt may be a sum of money or even a commodity. Bay al Dayn, as the term reads refers literally to the sale of debt, with Bay meaning sale and Dayn meaning debt. Saiful Azhar Rosly and Mahmood M. Sanusi state that the trading i.e. sale and purchase of debt certicates is called bay al-dayn.22 An illustration of the creation of debt would facilitate comprehensionfor instance, Abdullah sells goods worth $100,000 to Ibrahim via a deferred sale contract where Ibrahim would have to pay Abdullah the $100,000 in 3 months time. The $100,000 is thus a debt on the debtor Ibrahim owed to the creditor Abdullah. Abdullah ordinarily would have to wait till the date of maturity, i.e. 3 months, to have access to the $100,000 in cash. During these 3 months, however, either party may want to trade the debt. The following are some of the possible reasons that may compel the debtor to engage in the trading of debt: 1. Someone may owe him a debt and he would like to use that to settle the debt he owes to the principal creditor 2. He may have sold something on deferred basis to someone and would like to settle the debt owed to him with the debt owed by him to the principal creditor
Issue of Gharar in Bay Al-Dayn (Sale of Debt)

One of the popular types of sale in which the element of gharar involved is the sale of debt. Many forms of sale of debt have been envisaged by the jurists. Some instances of this transaction are as follows: 1. A borrows two tons of wheat for his personal needs from B. This amount is returnable in six months. Prior to the expiration date, B sells the wheat, which is a debt on A, to C in exchange for a plugging machine to be delivered in one month. This transaction
21 22
http://www.badralislamie.com.glossary/a-h.asp Saiful Azhar Rosly & Mahmood M. Sanusi, The Application of Bay al Inah and Bay al Dayn in Malaysian Islamic Bonds: An Islamic Analysis, International Journal of Islamic Financial Services, Vol. 1, No. 2, p. 10 23 Muhammad Yusuf Saleem, A Handbook on Fiqh for Economists II, p.55
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proceeds over an exchange of debts and is considered unlawful due to uncertainty over delivery and the resulting likelihood of gharar24. 2. A borrows $2,000 from B for a period of one year, but before repayment is made, B suggests to A that he will rent As house in exchange for the sum owed to B. This too involves selling one debt for another without delivery on either side. If the proposed exchange is advantageous to one party, it will also involve unlawful gain amounting to riba25. Bay al-dayn basically envisaged sale over an unpaid debt involving either two, or in some cases, three parties. The basic rationale of the prohibition of bay al-dayn was over uncertainty in its repayment. Bay al-dayn could proceed over a bad debt or one in which the debtor simply wanted a further delay due to his inability to pay on time. Subsequent unfavorable price changes also added to that uncertainty.
text in the Shariah on its prohibition. On the contrary, the principles of Shariah indicate its permissibility. The Prophet did not prohibit payment of one debt in exchange for other both of which are established and proven, especially if it involves only the debtor and not a third party. For this manner of clearance absolves both sides of their debts, and this is clearly permissible. The Maliki School has also upheld the permissibility of certain types of bay al-dayn prior to delivery and qabad when the debts involved therein do not arise from the exchange of foodstuffs and useable goods, and the transaction is also free of gharar. Siddiq al Darir stated in categorical terms that in my opinion, bay al-dayn is absolutely lawful, whether the sale is to the debtor or to a third party, for cash or for credit, provided that the sale is clear of riba and no textual injunction has declared it forbidden27. He stated further that the claim of uncertainty in delivery is unwarranted if the debt is not disputed by the debtor, who admits his/ her obligation and shows readiness to discharge it. This opinion seems to be in line with the recommendation made by the Malaysian Islamic Instrument Study Group, a board which was formed to advise the Malaysian Security Commissioner in matters relating to the security and share market in order to ensure its compatibility with Islamic principles. In one of its recommendations, the group reports that they have came across no consensus among jurists which forbids the practice of the sale of debt, as well as the sale of debts with debts. In fact, they found various forms of the sale of debts which are allowed by Maliki school of law. They indicates that there are differences between bay a-kali bil al-kali which is categorically prohibited in the prophetic Hadith and bay al-Dayn, sale of debts with debts. With this view, the group concluded that the sale of debt, even to a third party is permissible on the following conditions28: 1. The debt can be delivered. 2. No element of interest is involved. 3. The debt really exists and is in the possession of the
1. Bay Al-Dayn for deferred payment

The Shariah permits the selling of the debt by its equivalent in quantity and time of maturity by way of Hawalah. This form of debt trading is accepted by all Schools of Islamic law provided it is paid in full and thus gives no benet to the purchaser. The rationale for this ruling is that nancial transactions involving debt should never allow for a payment against the length of the period of the loan, as this would be regarded as riba or Bay al-Kali bil Kali26, which is prohibited by the Prophet (S.A.W). There is a Hadith which says Do not sell a debt for a debt, thus Bay al-dayn for deferred payment is not allowed. This is supported by Ibn Qayyim which has explained that not all varieties of bay al-dayn are prohibited. The prohibited variety is one which involves the sale or exchange of one deferred debt for another. The reason given is that bay al-dayn of this kind prolongs the liabilities of the parties for no useful purpose. However, his examination of the source evidence on bay al-dayn also led him to the conclusion that there is neither explicit nor implicit
24 25
Shaykh Siddiq Darir, al Gharar wa Atharuh al (1407/1986), 293. Cf. Hasan, amal, note 67, p. 290. 26 Al-Shukani, Nayl al-Awttar, vol. 5, p. 157 27 Atikullah bin Hj Abdullah, a critical study of concept of gharar and its elements in Islamic of business contract, p.187 28 Atikullah bin Hj Abdullah, a critical study of concept of gharar and its elements in Islamic of business contract, p.189
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seller and the purchaser is assured of a full settlement from the original debtor.
and if the debt is money, its price in another debt should be equal in terms of amount of quantity. Furthermore, the selling of al-dayn must avoid the occurrence of Riba between the two debts, and must also avoid any kinds of Gharar which may be raised at the level of inability of the buyer from possessing what he bought, as it is not permitted that the buyer sells before actual receipt of the purchased item31. It is important to note that Muslim scholars have unanimously prohibited the trading of debt (bay al-dayn) at anything other than face value. Where the price paid for a debt is not the same as the face value of that debt, the transaction would be tantamount to riba al-Nasiah and is therefore prohibited. Any prot created from the sale and purchase of a debt is riba. And whatever riba you give so that it may increase in the wealth of the people, it does not increase with Allah. (Ar-Rum 30:39) Prophet Muhammad (S.A.W) said: That every loan entailing benet is usury Furthermore, the sale of debt to the third party is allowed based on the grounds that it is allowed to give it to the debtor and to a third party too. This opinion is based on the following arguments: 1. There is no authentic source that prohibits such kinds of selling or giving. Thus, it should be allowed and permitted. 2. Creditor has full right on possession and full right to sell it to third party. 3. Based on a legal maxim, it is allowed, which states that all transactions are permissible until they are proven non-permissible by an authentic source. So, since there is no authentic source prohibiting this transaction, then, it should be allowed. However, Hanbalis, zahiris and some hanas and shais are on the opposite side, according them, the debt whether conrmed or non-conrmed, is not allowed to be sold to a third party at all. Moreover, it is forbidden to give it to a non-debtor. This opinion is basically derived from:
2. Bay Al-Dayn to a third party

The sale of debt to a third party (Bay al-Dayn li ghayr al Madin) would normally take place when a creditor would like to have instant cash instead of waiting for it to be fully paid up through the passage of time. Here, the creditor would sell it to any third party at a discount price on a cash payment basis. The jurists differ on the legitimacy of this practice. According to most of Hanas, Hanbalis and Shas jurists29, it is not allowed to sell al Dayn to non-debtor or a third party at all. Such opinions are based on the forbidden sale of al Kali Bil al Kali, sale of a Gharar, sale which the seller does not possess. These rules are attributed to the Prophets (SAW) prohibition for a type of sale Do not sell what you do not possess.
2.1 Selling Al-Dayn to a third party is allowed with condions

As an exception Malikis, Hanas and some Shas jurists30 allowed selling al-dayn to a third party. They said that there is no authentic source which prohibits such kind of selling. Therefore, it should be allowed and permitted since the Dayn is Mustaqir (conrmed debt). Since the creditor has the right to sell it to the debtor, as well as he has the right to sell it to a third party provided the following rules must be observed: (a) The Dayn must be Mustaqir (conrmed debt) and the contract must be performed on the spot, not deferred in order to avoid any relationship with the sale of a debt for a debt which is prohibited by Islamic law. (b) The debtor must be a nancially capable, must accept and recognize the sale, in order that he will not deny the sale. This condition aims to avoid any dispute between the parties, and the debtor must be easily accessible so that the creditor knows whether he has the capacity to pay his debt or not. (c) The sale should not be based on selling gold with silver or opposite, because, any exchanges between these items necessitates the immediate possession,
29 30
Al-Zuhili, Bay al Dayn in the Shariah, pp. 35/6 Ibid, pp 36-45 31 Such rules are based on authentic narrations of the Prophet (saw), and thus are not subjects for reinterpretations.
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1. There is a hadith of prophet (phub) which clearly states, Dont sell what you dont possess. 2. It also based on another hadith of prophet (phub) which prohibits selling or giving an item that the seller or giver is unable to deliver to the buyer or given: Dont sell the sh while they are in the water. On the same ground, there is a hadith, which states: The prophet prohibited the sale of a missing slave or the offspring of the offspring On logical grounds, this sale should not take place, since it may create a conict between the debtor and buyer of the debt. The debtor may refuse to pay the debt. Therefore, this type of sale should not be allowed as for the benet of both contractual parties. In fact, sale based on sale of undeliverable item as well as a sale of not possess item is actually not allowed. The sale of debt is not unanimously accepted or validated by Muslim scholars, while some allow it in all forms and aspects, the others either disallow it entirely or allow it under certain circumstances and with certain clauses or conditions. With respect to the sale of debt to the debtor, all schools are of the opinion that such a contract is legal and acceptable. Bay al Dayn between the creditor and a third party, though, is still contentious. Most Hana, Hanbali and Sha jurists disallow sale of debt to a third party.32 The fundamental reason for objection of such a sale lies in the fact that sale to a third party would involve elements of gharar. More specically, the debt, which represents a sum of money due to the creditor by the debtor, is an unfullled obligation where there is no guarantee that the debtor will not default on payment, thus creating a bad debt. This uncertainty has implications for the contract between the creditor and the third party. Some of the primary conditions for the validity of a sale contract are that the object of sale or subject matter must be in the possession of the seller and must be deliverable to the buyer. In this case, however, the uncertainty relating
to the payment of the debt by the debtor means that both possession and deliverability on the part of the creditor are uncertain. Hence, if the sale of debt proceeds and the debtor defaults, the third party suffers the loss. For instance, if Abdullah transfers the debt due to him from Ibrahim to Sulaiman, and subsequently Ibrahim defaults of the debt, Sulaiman would suffer loss and Abdullah would escape unscathed when in fact he is the principal creditor who should have borne the risk of default, and furthermore as a seller he must have had possession of the object of sale and must ensure that the object would be deliverable. On the other hand, Malikis, Hanas and some Sha jurists all the sale of debt to a third party provided the debt is Mustaqir or conrmed, the contract is conducted on the spot, the debtor has nancial capability to repay, and if the debt is money then its price in the other debt should be of an identical quantity.33 It may be concluded then that the majority opinion validates sale of the debt to the debtor himself or to a third party provided that such a trade or sale of debt occurs at the par value and not at an amount above or below that. What is still highly controversial and debatable is the sale of debt to a third party at a value other than the face value of the debt, generally at a discount. The supporters of Bay al Dayn at premium or discount advocate that the debt is a commodity in itself and as such it can be traded like any other commodity, at a prot or a loss. Islamic law of contract requires that for anything to constitute a valid object of sale it must be deemed al mal i.e. property. Furthermore, it must be deemed mal mutaqawwim i.e. valuable property. Thus for debt to be considered a valid object of sale it must be backed by an asset, the process of doing so is called securitization. Securitization creates haqq mali i.e. the right to buy or sell the commodity.34 Those scholars who oppose selling debt at a discount to a third party claim that the debt doesnt meet the necessary requirements of subject matter; furthermore,
32
Saiful Azhar Rosly & Mahmood M. Sanusi, The Application of Bay al Inah and Bay al Dayn in Malaysian Islamic Bonds: An Islamic Analysis, International Journal of Islamic Financial Services, Vol. 1, No. 2, p. 10 33 Saiful Azhar Rosly & Mahmood M. Sanusi, The Application of Bay al Inah and Bay al Dayn in Malaysian Islamic Bonds: An Islamic Analysis, International Journal of Islamic Financial Services, Vol. 1, No. 2, p. 10 34 Saiful Azhar Rosly & Mahmood M. Sanusi, The Application of Bay al Inah and Bay al Dayn in Malaysian Islamic Bonds: An Islamic Analysis, International Journal of Islamic Financial Services, Vol. 1, No. 2, p. 3
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the securitization process employs the contract of Bay al Inah which is inherently invalid in itself. Thus, sale of debt at an amount not equal to the face value of the debt amounts to Riba al Nasiah since the exchange of like items for each other necessitates the exchange of equal quantities of the two.
4. Conclusion
All in all, the concept of gharar has been proved to exist in Bay al Inah and Bay al Dayn contracts. The issue arises as to whether its existence is signicant enough to render them invalid for all times to come. There are those who argue that albeit gharar is a detrimental factor, there are bigger concerns that must be considered before imposing a blanket rule. They are of the opinion that in the name of the maslaha or public interest, in keeping with the objectives of the Shariah, ghararladen contracts such as Bay al Inah and Bay al Dayn be allowed to exist. To back this claim they give examples of how exceptions to the law of no-gharar for the sake of public interest were created in the time of the Prophet (s.a.w.), such as Bay al Salam, Istisna, etc. They insist that the contracts under concern will facilitate the growth and development of Islamic economics and nance by ensuring efciency. The author is of the opinion that gharar is undoubtedly a virus that corrupts not only a contract but also the fabric of society. While there does exist a case for allowing under exceptional circumstances what is otherwise prohibited or shunned, doing so would lead to a slippery slope scenario where no denite limit is set, hence triggering an avalanche. Finally, it is the duty of all the relevant parties involved in the Islamic banking industry to come out with any alternatives which is free from these elements or incorporate any other elements which may reduce the degree of gharar in any Islamic banking products.
References
Al Haska,(1971), Al Durr al Mukhtar Sharh Tanwir al Absar, v.5, Dar al Fikr, Beirut Hassan O. Ahmed,(1990), Shariah Contracts in Islamic Banking & Finance, Dar al Fikr, Beirut Imam Sha, Al Um, v.3, Dar al Fikr, Beirut
Kamali M.H,(2001) Prospects for an Islamic Derivatives Market in Malaysia, http://lawinislam.com/article. php?id=7 Kamali,M.H.i,(1988),Uncertainty and Risk-Taking (Gharar) In Islamic Law, IIUM Law Journal, Vol. 7, No. 2, , IIUM Kamali.M.H, (1990) ,Principles of Islamic Jurisprudence, Cambridge, UK Muhammed Obaidullah,(2005,) Islamic Financial Services, Islamic Economic Research Nabil A. Saleh,1986,Unlawful Gain and Legitimate Prot in Islamic Law: Riba, Gharar and Islamic Banking, Cambridge,Cambridge University Press. Pramanik,A.H,(2001)., Islamic Banking: How Far Have We Gone, IIUM, KL Razali S.Salwani,(2008) Online Contract and the Issues of Gharar and Uncertainty, IIUM Law Journal vol 16, 1 Razali,S.Salwani,(2008) The Dominance Entry of Principle of Gharar in E-Contract,Arab Law Quarterly vol 35 ,5 Rosly S.A.,(1999),Critical Issues on Islamic Banking and Financial Markets, Dinamas, KL Saiful Azhar Rosly & Mahmood M. Sanusi,(1999), The Application of Bay al Inah and Bay al Dayn in Malaysian Islamic Bonds: An Islamic Analysis, International Journal of Islamic Financial Services, Vol. 1, No. 2 Saleem.M.Y,(2000) A Handbook on Fiqh for Economists ,IIUM Sunan Abu Dawud Sahih al Bukhari The Holy Quran http://infad.kuim.edu.my/modules.php?op=modload&na me=News&le=article&sid=9346 http://infad.kuim.edu.my/modules.php?op=modload&na me=Search&le=index&action=search&overview= 1&active_stories=1&stories_topics[0]=7 http://infad.usim.edu.my/modules.php?op=modload&na me=News&le=article&sid=9348&mode=thread& order=0&thold=0 http://islamicfinanceandbanking.blogspot.com/2007 _08_01_archive.html http://staff.uob.bh/les/620922311_les/FinancialEngineering.pdf http://staff.uob.bh/les/620922311_les/FinancialEngineering.pdf
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International Journal of Financial Management

Editorial Advisory Board

Editorial Review Board

Within Volume 1 Issue 1, January 2012

Online Access www.publishingindia.com

1. Stock Index Return Forecasting and Trading Strategy Using

International Journal of Financial Management

Volume 1 Issue 1 January 2012

International Journal of Financial Management

Volume 2 Issue 1 January 2012

2. Data and Methodology

2.1 Forecasting Methodology

2.1.1 ARIMA Methodology

2.1.3 Model Formulation

2.1.2 Neural Network Methodology

International Journal of Financial Management

Volume 2 Issue 1 January 2012

2.1.4 The Hybrid Methodology

2.2 Forecasting Accuracy and Trading Simulation

comparison of their forecasting accuracy and trading performance.

2.2.1 Out-of-Sample Forecasting Accuracy Measures

2.2.2 Out-of-Sample Trading Performance Measures

International Journal of Financial Management

Volume 2 Issue 1 January 2012

Table 2 Unit Root Test for the NIFTY Return Series

3.3 ARIMA Model

.000306 .001202 .015392 .621756 8.409610 1319

3.2 Stationarity Test

3.4 Neural Network Model

3.5 Hybrid Model

3.6 Forecast Evaluation

Turning Point Evaluation

Table 4 Out-of-Sample Prediction Accuracy

Hybrid Model Neural Network ARIMA

0.011063 0.011107 0.011125

0.015916 0.016153 0.016275

0.937088 0.965219 0.979853

0.514285 0.523809 0.425396

0.540541 0.527027 0.405405

0.481928 0.481928 0.439759

International Journal of Financial Management

Volume 2 Issue 1 January 2012

Table 5 Results of turning point forecasting capability of the five models

.242 (9.862) .474 (13.85)

.224 (9.071) .513 (14.95)

.342 (15.49) .291 (9.34)

Out-of-Sample Trading Performance Results

International Journal of Financial Management

Volume 2 Issue 1 January 2012

-Y ) 1 if (Yt - Yt -1) (Y t t -1 0 Otherwise

-Y ) > 0; (Y - Y ) ( Y -Y )0 1 If ( Y t t -1 t t -1 t t -1 dt = , 0 Otherwise 1 If ( Yt - Yt -1 ) > 0 kt = 0 Otherwise

International Journal of Financial Management

Volume 2 Issue 1 January 2012

MD = min ( Rtc - max( Rtc ))

where Qt = 1 if Yt > 0 else Qt = 0

8. % Winning trades : WT = 100 NT where Ft = 1 transaction profitt > 0

ARIMA (1 1 1) ARIMA (2 1 1) ARIMA (1 1 2) ARIMA (2 1 2) ARIMA (1 1 3) ARIMA (2 1 3)

5.567444 5.571542 5.572746 5.571903 5.570930 5.571832

5.552709 5.551880 5.553099 5.547325 5.546371 5.552339

** ARIMA (1 1 2) has the lowest AIC and SBIC value

A Study on the Linkages of Asian and the US Stock Markets

International Journal of Financial Management

Volume 2 Issue 1 January 2012

2. Causes of Recession and Its Impact