An Empirical Study on the Short- and Long-Run Relationship Between South Asian Emerging Stock Markets

This paper investigates the linkages between the four emerging stock markets of Bangladesh, India, Pakistan and Sri Lanka after a period of financial liberalisation in South Asia in 2000. The initial analysis was conducted for the period from January 2000 to December 2019 as well as for two sub-periods before and after the Global Financial Crisis of 2008. The paper examines whether the equity returns from these four markets become more linked after this crisis. During a crisis period, investors may attempt to diversify internationally whilst taking advantage of the 2000 financial liberalisation that took place in South Asia. More specifically, the paper investigates the existence of co-integration amongst the markets and convergence toward the long-run equilibrium using the vector error correction model. A single co-integrating vector for the entire period and in the post-crisis sub-period is found. Forecasting the returns one-week ahead using data for the period from January 2016 to December 2019 confirmed the robustness of the model used. An important implication of this finding is that linkages between the sample countries have increased over time, especially around the time of the Global Financial Crisis. As a result, the potential for diversifying risk by investing in all four of these South Asian countries is limited in the long-run because their equity markets move together over time.