Sensitivity of Kenya Banks' Stock Returns to Interest Rate and Exchange Rate Changes

Abstract

This paper seeks to establish the effect of interest rates and foreign exchange changes on bank stock returns. There are various reasons why the stock returns of banks can be responsive to interest rate and FX rate changes. The objective of the study was to determine the sensitivity of Kenya banks' stock returns to interest rate and exchange rate changes. To determine the sensitivity of Kenya banks' stock returns to interest rate and exchange rate changes, regression of stock returns on exchange rates and event study methodology was used. The event is what the researcher would like to study. The event date is the date of announcement of change in interest rate by CBK and change in Foreign exchange by the sample firm. The study only sampled commercial banks listed in the NSE as the study is focusing on the analysis of the sensitivity of Kenya banks' stock returns to interest rate and exchange rate changes with reference to listed banks in Kenya. The study covered a period of 18 months start from January 2011 to June 2012. The period has been selected since it has been characterized with changes in foreign exchange and interest rate. Secondary method of data collection was used. Data was analyzed using ordinary least square (OLS) market model which measured the estimation of abnormal return on stock prices. The study found that changes in the interest rate had both positive and negative effects on the stock price of commercial banks listed in the NSE. The study further found that share price of commercial banks listed in the NSE was sensitive to changes in interest rate. The study also established that 73.2 % changes stock price of commercial banks listed in the NSE could be accounted for by changes in foreign exchange an indication that changes in stock price of commercial banks listed in the NSE could be attributed to changes in foreign exchange rate. There is need for the central bank of Kenya to control the interest rate as changes in interest rate were found to have both positive and negative effects on the performance of stocks of commercial banks listed in the NSE.