Risk ratings and stock prices : the causal nexus in BRICS countries

Abstract

This paper investigates the nature of causal relations between risk (economic risk, financial risk and political risk) and stock prices in five BRICS countries (Brazil, Russia, India, China and South Africa), applying the Granger causality test over a period of 20 years from 1992 to 2012. The study bridges a gap in the literature, as prior macroeconomic empirical investigation has been limited to a possible link between risk ratings and stock prices. Our modelling includes BRICS stock price indices and three risk ratings, namely economic risk ratings, financial risk ratings, and political risk ratings. To achieve our objective, two econometric methodologies were adopted: cross-country regressions and time series regressions. The empirical results of this study indicate that for Russia and China (and the BRICS counties as a group), there is a unidirectional causality between political risk and economic risk. Another noteworthy result was the fact that a unidirectional causality between economic risk and share prices were found for India and China (and the BRICS countries as a group), but not for the other countries under review. This indicates the important role that the stock market plays in the economies of India and China and hence provides an extra caution for prospective investors in these countries.