INTRODUCTION
Given
the increasing trend towards globalization in financial markets, a substantial
amount of research has been devoted to the investigation of the relationship
between macroeconomic indicators and corporate performance of insurance
companies in Nigeria. Portfolio theory suggests that if the stock returns
between markets are less than perfectly correlated, investors should be able to
reduce their risk through international diversification. If countries stock
returns are positively related, however, it is possible to sue the information
in one market to predict the movement in the other market. The expected returns
from the investment in foreign stocks are determined by changes in local stock
price and currency values. If the effect of exchange risk does not vanish in
well-diversified portfolios, exposure to this risk should command a risk
premium. Therefore, the interaction between currency value and stock price is
an important determinant of global investment returns (Dong et al, 2005).
Establishing
the relationship between stock prices and exchange rates is important for a
number of reasons. First, the link between those who markets may be used to
predict the path of the exchange rate. This can have implications for the
ability of multinational corporations to manage their exposure to foreign
contracts and the exchange rate they face.
Classical
economic theory hypothesis that stock prices and exchange rate can interact by
the way of the flow oriented models, and portfolio balance models. Flow
oriented models, first discussed by Dornbursh and Fisher 1980 that exchange
rate movements causes movements in stock prices. This approach is built on the
macroeconomic view that because stock prices represent the discounted present
value of a firm expected future cash flows, then any phenomenon that affects a
firms cash flow will be reflected in that firms stock prices if the market is
efficient as the efficient market hypothesis suggest movements in the exchange
rate are one such phenomenon.
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