Author(s): Amit Kumar Jha
This paper investigates the effects of economic factors on India’s stock markets. It utilized Johansen cointegration test and Innovation Accounting techniques to study the short-run dynamics as well as long-run relationship between stock prices and four macroeconomic variables from the Indian economy. It also attempts to forecast the volatility of stock markets with the help from Autoregressive Conditional Heteroskedastic models (ARCH). We found co-movements between stock market index and macroeconomic variables in a long-run equilibrium path. The variations in the stock prices are mainly attributed to its own variations and to smaller extent by other macroeconomic variables. EGARCH method emerged as the best forecasting tool available, among others. However, it is advisable not to forecast beyond one period in cases of such volatile series, because of the randomness involved as visible from the forecast errors obtained from different methods.