IMPACT OF OIL PRICE MOVEMENT ON THE NIGERIAN STOCK MARKET
ABSTRACT
From the middle of the twentieth century, crude oil has become one of the main indicators of economic activities due to its importance in the supply of the World’s energy demands. Nigeria as one of the major suppliers of crude oil in the international market has depended so much in oil price in making their annual budgets. Oil price changes influence economic activities as it reacts to the vagaries of both supply and demand forces with overarching consequences on other critical sectors of the Nigerian economy. Expectedly, it could be argued that if oil affects real economic activities, it will equally affect the earnings of companies through which oil is a direct or indirect cost of operation. If on the other hand, the stock market is inefficient, stock returns might be slow as is the case in Nigeria. A number of studies on the relationship between oil price and stock markets have focused on explanatory variables selected from developed economies. The study sought to: (i) examine the impact of oil price shock on the value of shares traded on the floor of Nigerian stock market (ii) evaluate the impact of oil price on the market capitalization of firms quoted in the Nigerian stock market, and (iii) explain the impact of oil shock on turnover ratio of stocks in the Nigerian stock market. This study adopted the ex-post facto research design. The Ordinary Least Squares regression model was used to test the hypotheses. Findings showed that international oil price shock had a positive and significant impact on the value of shares traded at the Nigerian stock market (α = 0.34, t-value = 4.67, p < 0.05, R2 = 0.87, Adj r2 = 0.82, F-statistic = 111.58, D.W = 1.85). International oil price shock had positive and significant impact on market capitalization ratio at the Nigerian stock market (α = 0.41, t-value = 5.15, p < 0.05, r2 = 0.88, Adj r2 = 0.85 F-statistic = 112.12, D.W = 1.86). International oil price shock had positive and non-significant impact on turnover ratio of the Nigerian stock market (α = 0.64, t-value = 1.82, p > 0.05, r2 = 0.82, Adj r2 = 0.78, F-statistic = 110.97, D.W = 1.72). This study thus concludes that oil price shock is an important factor which determines the direction and size of the stock market. We therefore recommend amongst others that revenue from oil be prudently utilized in order for it to impact more on the size of the stock market.
TABLE OF CONTENTS
Chapter One:    Introduction.    .    
1.1    Background to the Study.    .    .    .    .    .    
1.2    Statement of the Problem.    .    .    .    .    
1.3    Objectives of the Study.    .    
1.4    Research Questions     .    .    .    .    .    
1.5     Research Hypotheses.    .    .    .    
1.6    Scope of the Study.    .    .    .    .    .
1.7    Significance of Study.    .    .    .    .    .
    References.    .    .    .    .    .    .    
Chapter Two: Review of Related Literature.    .    .    .
2.1     Conceptual Framework.    .    .    .    .
2.1.1    Concept of Oil Price and Oil Price Movement.    .    .
2.1.2    The Concept of Supply Shocks.    .    .    .    
2.1.3    The Concept of Demand Shocks.    .    .    
2.1.4    The Concept of Stock Market.    .    .    .    
2.1.5    The Concept of Market Efficiency.    .    .    .    
2.1.6    The Concept of Weak Form of Efficient Market Hypothesis.    
2.2    Theoretical Review.    .    .    .    .    .    .    .
2.2.1    The Dutch Disease Syndrome Theory.    .    .    
2.2.2    Expectational Theories of Oil.    .    .    .    
2.3.    Empirical Review.    .    .    .    .    .    .
2.3.1     Major Global Historical Oil Shocks.    .    .    .    .    
2.3.2    Financial Speculation in Oil Futures Markets.    .    .    
2.3.3    The Role of OPEC.    .    .    .    .    .    .
2.3.4    Consequences of Exogenous Oil Price Shocks.    .    .
2.3.4.1    The Direct Effects of an Exogenous Oil Price Shock on Real GDP.    .
2.3.4.2    Direct effects: Supply channel of transmission.    .    
2.3.4.3    Direct Effects: Demand channel of transmission.    .    .    .    
2.3.4.4    The Direct Effects of an Exogenous Oil Price Shock on Inflation.    .    
2.3.4.5    The Indirect Effects of an Exogenous Oil Price Shock on Real GDP.    
2.3.4.6    Indirect effects: Reallocation effect.    .    .    .    .    .    .
2.3.4.7    Indirect effects: Uncertainty effect.    .    .    .    .    .
2.3.4.8    Indirect effects: Systematic monetary policy responses.    .    
2.3.5    Oil Price Shocks: Exporting countries Vs Importing Countries.    .
2.3.6    The Role of the Capital Market in Nigeria.    .    .    .    
2.3.7    Development of the Nigeria Capital Market.    .    .    .
2.3.8    Oil Prices and Economic Activities.    .    .    .    .    
2.3.9     Oil Prices and Monetary Policy.    .    .    .    .    
2.3.10    Asymmetric Effect of Oil Price Changes.    .    .    .    
2.3.11    Stock Market and Economic Activity.    .    .    .
2.3.12     Oil Prices and Stock Market.    .    .    .    .    .    
2.2.13    Stock Market Efficiency.    .    .    .    .    .    
2.3.14    Financial Liberalization and stock market Returns.    .    .    
2.3.15    Trading Volumes and Volatility of Stock Prices.    .    .    
2.3.16    Daily volatility and stock market Returns.    .    .    .
2.3.17    Intra- Day Volatility and Stock Market Returns.    .    .    .    
2.4     Summary of Review of Literature.    .    .    .    .    .    
    References.    .    .    .    .    .    .    .    .
Chapter Three: Methodology.    .    .    .    .    .    .
3.1    Research Design.    .    .    .    .    .    .    
3.2    Model Specification.    .    .    .    .    .    .    
3.3    Description of Explanatory Variable.    .    .    .    .    .
3.3.1    Dependent Variables.    .    .    .    .    .    .    
3.3.2    Independent Variable.    .    .    .    .    .    .    
3.3.3    Control Variables.    .    .    .    .    .    .    .
3.4    Techniques of Analysis.    .    .    .    .    .    .    
3.5    Diagnostic Tests.    .    .    .    .    .    . 
3.5.1    Multicolinearity.    .    .    .    .    .    .
3.5.2    Heteroscedasticity.    .    .    .    .    .    .    .
3.5.3    Autocorrelation.    .    .    .    .    .    .    .    
3.5.4    Normality.    .    .    .    .    .    .    .    
    References.    .    .    .    .    .    .    .    
Chapter Four    : Data Presentation and Analysis.    .    .    .    .
4.0    Prelude.    .    .    .    .    .    .    .    .
4.1     Data Presentation.    .    .    .    .    .    .    
4.2.     Diagnostic Test.    .    .    .    .    .    .    
4.2.1    Multicollinearity test.    .    .    .    .    .    .    .
4.2.2    Heteroskedasticity Test.    .    .    .    .    .    
4.2.3    Autocorrelation Test.    .    .    .    .    .    .    
4.2.4    Normality Test.    .    .    .    .    .    .    .
4.3    Test of Hypotheses.    .    .    .    .    .    .    
4.3.1    Test of Hypothesis One.    .    .    .    .    .
4.3.2    Test of Hypothesis Two.    .    .    .    .    .    .    
4.3.3    Test of Hypothesis Three.    .    .    .    .    .    .
4.4    Implication of Findings.    .    .    .    .    .    .    
References.    .    .    .    .    .    .    .    .    
Chapter Five:    Summary of Findings, Conclusion and Recommendations.    .
5.1    Summary of Finding.    .    .    .    .    .    .    .    
5.2    Conclusion.    .    .    .    .    .    .    .    .    
5.3    Recommendations.    .    .    .    .    .    .    .    
5.3.1    Contributions to Knowledge.    .    .    .    .    .    .    
5.3.2    Recommendation for Further Studies.    .    .    .    .    .
    Bibliography.    .    .    .    .    .    .    .    .
Appendix.    .    .    .    .    .    .    .    .    
LIST OF TABLES
Table 4.1: Values of Total Deposit Volume, Loan and Advances, Interest
(deposit and lending) Rates.    .    .    .    .    .    
Table 4.2: Correlation matrix.    .    .    .    .    .    .    .
Table 4.3: Heteroscedasticity Test for the First Hypothesis.    .    .    .    .
Table 4.4: Heteroscedasticity Test for the second Hypothesis.    .    
Table 4.5: Heteroscedasticity Test for the third Hypothesis.    .    .    .
Table 4.6: Autocorrelation Test for the First Hypothesis.    .    .    .    
Table 4.7: Autocorrelation Test for the Second Hypothesis.    .    .    .    .
Table 4.8: Autocorrelation Test for the Third Hypothesis.    .    .    .    .
Table 4.9: Normality test of the multiple regression models.    .    .    .    .
Table 4.10: Regression Result of Hypothesis One.    .    .    .    .    
Table 4.11: Newey-West HAC Standard Errors & Covariance.    .    .    
Table 4.12: Regression Result of Hypothesis One.    .    .    .    .    .
Table 4.13: Regression Result of Hypothesis Three.    .    .    .    .    
LIST OF FIGURES
Figure 4.1: Market Capitalization Trend.    .    .    .    .    .    
Figure 4.2: Graphical Representation of changes in Market Capitalization from 1986-2013     
Figure 4.3: Graphical Representation of the Value of Shares Traded from 1986-2013.    
Figure 4.4: Graphical Representation of Nigerian Turnover Ratio from 1983-2013.    
Figure 4.5: Graphical Representation of change in Oil Price Shock from 1986-2013.
CHAPTER ONE
INTRODUCTION
1.1   Background to the Study
From the middle of twentieth century onwards, crude oil has become one of the main indicators of economic activity worldwide, due to its outstanding importance in the supply of the world's energy demands. Nigeria as one of the major suppliers of crude oil in the international market has depended so much in the oil price in making their annual budgets.
According to Odusami (2006:1), fluctuations in the price of crude oil have significant implications for a Varity of economic activities. For example, Hamilton (1983) showed that significant increase in oil price preceded every post World War 11 recession in the U.S. Mork (1989:20) examined the evidence of asymmetric response of output to oil price increase and decrease and find evidence of negative correlation between oil prices increase and output growth. Lee and Ratti (1995:53) scrutinized the effect of real oil price on output and show that in long periods of economic stability, oil price shock affects output in U.S., Japan, Germany, Canada, France, UK and Norway.
It could be seen that the public has been particular concerned about oil price fluctuations. These fluctuations have become one of the current affairs published on the front pages by the vast majority of the world's newspapers (especially in US), mainly from the Yom Kippur War of October 5, 1973. Thus, the prevailing view among economists is that there is a strong relationship between the growth rate of a country and oil price changes.
Agren (2006:4) states that the oil price influence on stock markets is an interesting and important issue, even more so recently when the world oil price has displayed great instability. He further maintains that during April of 2006, the price of crude oil was in the neighborhood of (U.S) $70 per barrel, which is well above the price of $20 during most of the 1990's.   In a recent survey of oil in the Economist, Vaitheeswaran (2005:16) proposes that the explanation for the rise is that oil markets have seen an abnormal combination of tight supply, surging demand, and financial speculation. One might also consider the unstable political situation in the Middle East. And the activities of militant groups in the Niger Delta region of Nigeria a candidate cause for the rise in oil prices.
Thus, as posited by Jones, Leiby and Paik (2004:8) that the stock market has been viewed as an information collection and processing institution. The asset prices it establishes depend on information about future prospects as well as current conditions facing firms. The efficiency with which stock markets process information has been a subject of intense study for several decades.
If stock-price or rate-of-return forecasts cannot be improved upon by use of any of other information, the case can be made that the stock market is already using all publicly and privately available information in the formation of those prices. Reasonable to expect that the stock market would absorb the information about the consequences of an oil price shock and incorporate it into stock prices very quickly. Since asset prices are the present discounted value of the future net earnings of firms, both the current and the future impacts of such a shock should be absorbed into prices and returns without having to wait for those impacts to actually occur.
There exist a few research works that links oil prices to stock markets. Jones and Kaul (1996) test whether stock markets are rational in the sense that they fully adjust to the impact of oil Shocks on dividends. In their study of the U.S, Canadian, Japanese, and U.K stock markets, initially show that all the markets respond negatively to oil shocks. Huang, Masulis, and Stoll (1996) looked at the oil futures market and the stock market using daily data. Sadorsky (1999) on the other hand studies the impact of real oil price shocks on real stock returns by estimating vector auto regressions, including U.S industrial production and short interest rates. The study separates positive from negative oil shocks, and, contrary to Huang et al (1996), presents evidence that shocks to the oil price do affect aggregate stock returns Basher and Sadorsky (2004), using a multifactor arbitrage pricing model, find strong evidence that oil price risk impacts returns of emerging stock markets.
1.2    Statement of the Problem
The impact of oil price shocks on oil sector stock prices in developing countries has not been sufficiently covered in the literature especially in the area of tracing out oil blocks and the financial bonds hence, the present study further attempts to determine the dynamic impact of effects of oil price shocks on oil sector stock prices in Nigeria. The oil price shock of 1973 and the subsequent recession gave rise to a plethora of studies analysing the effects of oil price increases on the economy. The early studies included Pieerce and Enzler (1974, Rasche and Tatom (1977), Mork and Hall (1980), and Darby (1982), all of which documented and explained the inverse relationship between oil price increases and aggregate economic activity. Later empirical studies such as, Gisser and Goodwin (1986) and the study on energy Modelling Forum as documented in Hickman et al. (1987) confirmed the inverse relationship between oil prices and aggregate economic activity. Darby (1982), Burbidge and Harrison (1984), and Bruno and Sachs (1982, 1985) documented similar oil price economy relationships in cross-country analysis. Hamilton (1983) made a definitive contribution by extending the analysis to show that all but one of the recessions were preceded by rising oil prices and those other business cycle variables could not account for the recessions. This is also evident in the current economic meltdown. Several different channels have been proposed to account for the inverse relationship between oil price movements and aggregate economic activity. The most basic is the classic supply side effect in which rising oil prices are indicative of the reduced availability of a basic input to production. Other explanations include income transfers from the oil importing nations to the oil- exporting nations, a real balance effect and monetary policy. Of these explanations, the classic supply-side effect best explains why rising oil prices slows GDP growth and stimulates inflation. Rising oil prices can be indicative of a classic supply side shock that reduces potential output, as in Rasche and Taton (1977 and 1981), Barro (1984) and Brown and Yucel (1999).
Rising oil prices signal that increased scarcity of energy is a basic input to production. The oil prices fluctuate due to several macroeconomic and geopolitical issues that are sometimes beyond the control of oil producers or consumers. The impact of high oil prices is likely to be even more severe in countries that are overly dependent on oil and/or are heavily debt-burdened, a situation that characterizes the Nigerian economy. On the other hand, while oil-exporting countries obviously benefit from high oil prices, economies that are heavily reliant on oil exports can also become vulnerable to the Dutch disease. Oil used to produce the final good is either imported or locally produced, depending on whether the country is a net importer or a net exporter of oil. In oil importing countries, the government practices local currency pricing (LCP), buying oil at the world price, and reselling it to domestic firms at the domestic price but in oil exporting countries such as Nigeria, it is assumed that the oil industry is owned by the government, which sells oil to the rest of the world at the world price, and to domestic firms at the domestic price. These two need not be identical even after converting the world price to domestic currency. Depending on how the government sets, pass-through from the world price to the local price of oil will be complete or incomplete.
Nevertheless, it have been observed by most researchers that for such an oil exporting economy as Nigeria, there exist a direct relationship between the international oil price and its economy since it is solely dependent on oil revenue for its fiscal outlook. Ayadi (2005) used a standard VAR process to analyse directly the effect of oil price shocks for Nigeria over the 1980-2004 periods, and his findings maintained the direct relationship between oil price shocks and Nigerian economy.
The issue of oil price shocks and oil sector stock prices, it effects on economy has posed serious concern to many policy makers and financial experts. This is due to the fact that in recent years, some studies have tended to focus majorly on developed economies such as the European, Asian and Latin American emerging markets and shown significant relationships between oil price changes and emerging stock markets.
For instance, Papapetrou (2001) showed a significant relationship between oil price changes and stock markets in Greece. Basher and Sadorsky (2006) reach the same conclusion for other emerging stock markets using an international multifactor model. However, less attention has been given to smaller emerging markets, like the Nigerian stock market hence, the need to explore the major causes of the stock market dynamics in Nigeria.
Indeed, previously, the world has witnessed an extraordinary collapse of financial institutions, loss in asset value/share price particularly of mortgage related securities, stock market declines, speculative bubbles and currency crisis, among others. For example, Nigeria has witnessed a sudden decline in oil prices from the peak of US$147 per barrel in July 2008 to US$40 per barrel in February 2009, rose again to US$120 in 2013 and fell to all time low of US$46 in April 2016. Also, the economy has experienced decline of the value of stocks prices in its capital markets in the same period. The stock prices witnessed significant bearish trends in the previous periods coupled with the fluctuations of the international oil prices. The trend of demand and supply in the global economy coupled with activities of OPEC consistently affects the price of oil. The recent changes in oil prices in the global economy are so rapid and unprecedented. However, the current global economic meltdown suddenly counteracted the skyrocketing oil price. At the beginning of the crisis oil price crashed below $40/b in the world market which had serious consequences on Nigeria’s fiscal budget and which led to the downward review of the budget oil benchmark price. Today oil price is oscillating between $40/b and $45/b. This rapid change has become a great concern to researcher; therefore a study of this kind is timely.
1.3     Objectives of the Study
Based   on   the   identified   research   problem,   the following objectives were set for the research. The primary objective of this research is to determine the impact of oil price shocks on the Nigerian stock market. The secondary objectives include:
i)    To determine the impact of oil price movement on market capitalization.
ii)    To examine the impact of oil price movement on Nigerian stock market turnover ratio.
iii)     To assess the impact oil price movement on value of shares traded.
1.4   Research Questions
In the light of the above objectives, the researcher considers the following research questions as pertinent in addressing the various issues raised in this work.
i.    Does oil price movement have positive and significant effect on the Nigerian stock market capitalization?
ii.    To what extent does oil price movement effect on the stock market turnover ratio?
iii.    How far does oil price shock impact on stock market value of shares traded?
1.5     Research Hypotheses
The following propositions are formulated for this study.
1.    Oil price shock does not have positive and significant effect on the Nigerian stock market capitalization.
2.    Oil price shock does not have positive and significant effect on the Nigerian stock market turnover ratio.
3.     Oil price shock does not have positive and significant impact on value of shares traded.
1.6       Scope of the Study
The study covers the period 1986 to 2013. The issue of oil price shock is such that it affects all the macroeconomic factors in all economic fulcrums in Nigeria, but this research will be restricted to finding out the impact of oil price shock on the Nigerian stock market during the era of liberalization of the Nigerian economy due major to the introduction of the structural adjustment programme.. This study covered period of thirty two years (1986 to 2013). During this period, the company’s stock quoted at the Nigerian stock exchange market will be considered. Because of time and space, the study is limited to Nigerian stock market only five economic variables. However, the work gave an insight into the impact of oil price shock on other emerging economies and developed ones.
1.7        Significance of the Study
The study is of great significance to various stakeholders in Nigerian economy for various reasons. The groups that will benefit from this study are:
1.    Investors and Potential
Findings and recommendations in this thesis will be a guide to the investors in the capital market who will love to reduce the level of their risk by understanding the various factors that affect the stock price in the market. It is believed to be of immense benefit to the Nigerian government and policy makers whose annual budget is based on anticipated crude oil price benchmark.
2.    Management
The study will also be of great benefit to directors of various companies, especially those whose activities are affected or determined by the oil prices. The research work would also be useful to the various scholars in the field of finance and economics as well as future researchers who may wish to share ideas with the researcher or to advance further on the study or use the work as source of secondary data for their future works.
3.    Literature
The study will fill the gap that exist in the study of oil price shock and the stock market as it will be the first of such work to be carried out in Nigeria as an emerging economy and supplier of crude oil in the International market. Finally, this study is also significant to the researcher in the sense that it will widen his scope of the knowledge of both oil price shock and Nigerian stock market. This study also is a requirement for the award of Ph.D in Banking and finance.
References
Basher, S.A. and Sadorsky P., (2006). Oil price risk and emerging stock markets. Global Finance Journal, 17(2): 224-251.
Burbidge, J., and A. Harrison. (1984). Testing for the Effects of Oil-Price Rises Using Vector Autoregression.International Economic Review 25: 459-484.
Clements, M.P., and D.F. Hendry (1995). Forecasting in Cointegrated System.Journal of Applied Econometrics 10:127-146.
Gisser, M., and T.H. Goodwin (1986). Efficient Pricing during Oil Supply Distribution. Energy Journal 7(2):51-68.
Hamilton, J.D. (2003). What is an Oil Shock?Journal of Econometrics, 113, 363-398.
Hamilton, J.D. (1996). This is what happened to the Oil price-Macroeconomic Relationship.Journal of Monetary Economics 38: 215-220.
Hamilton, J.D. (1983). Oil and the Macroeconomy since World War II.Journal of Political Economy 91:228-248.
Hamilton, James D., and Ana Maria Herrera (2004). Oil shocks and aggregate Macroeconomic behavior: the role of monetary policy.Journal of money, credit, and Banking 36(2): 265-286.
Huang, R., R. Masulis, and Stoll H., (1996). Energy Shocks and Financial Markets.Journal of Futures Markets, 16, 1-27.
Jones, C.M., and G. Kaul (1996) .Oil and the Stock Market.Journal of Finance 51:463-491.
Jones, Donald W., Paul N. Leiby and Inja K. Paik (2004). Oil price shocks and the macroeconomy: what has been learned since 1996.Energy Journal 25(2), 23-39.
Lee, K.S. Ni, and R.A. Ratti (1995). Oil shocks and the Macroeconomy: The role of Price Variability.Energy Journal 16(4):39-56.
Loungani, Prakash (1986). Oil Price Shocks and the Dispersion Hypothesis. Review of Economics and Statistics, 58, pp. 536-539.