Stocks, Bonds and Foreign Exchange Inter-linkages: A Market Micro-structure Perspective in Kenya

Abstract

This paper examined Market Micro-structure interrelations between Stocks, Bonds and Foreign Exchange Markets. The Study analyzed both unconditional correlation, dynamic relationship and volatility spillovers effects between the markets. The analysis used the asymmetric dynamic conditional correlation (aDCC) using Exponential Generalized Autoregressive Conditional Heteroskedastic model (EGARCH). Using monthly data from Kenyan market during the period January 2004 -June 2017, results indicate that there is significant market interactions and interlinkages and existence time varying variance correlation between any bivariate set in the three markets in Kenya. While, the conditional correlations are positive, the unconditional correlation reveal, a negative correlation between Foreign exchange markets and the Bonds as well as stocks. The study proposes policy makers like the government through treasury, capital markets authority (CMA) and Nairobi securities exchange (NSE) to encourage more Kenyan investors to invest in bond market by marketing the bond market through educational forums, conferences. For the Proposal to take effect, appropriate authorities should stabilize the Kenyan currency through monetary interventions.