Testing for Market Overreaction at the Nairobi Securities Exchange

Abstract

This research tests validity of the theory of market performance based on current literature findings dealing with stock returns. Market efficiency theorem notes that using past trading evidence; it is not possible to beat the market. Predictability of returns using past trading data also questions the notion of market effectiveness. I present a survey of studies recording long-term return reversals and short- to medium-term return continuity, which is contrary to market efficiency hypothesis expectations. The reversal effect is usually due to investor overreaction while the momentum effect is due to investor underreaction. The phenomenon of "overreaction" and "underreaction" are examples of potential market efficiency abuses, these hypotheses indicate that investors are inclined to make revenue either by investing in past losers and long-term selling big names, or by buying past winners and short-term selling experience of negative, respectively. The population under study was made up of all companies quoted at the Nairobi Stock Exchange (NSE) as of 31 December 2019. Secondary data was sourced from the Nairobi Stock Exchange (NSE). The study employed parametric tests of data analysis by assuming the population is normal. I attempted to employ both t and Z test for different samples. The Z statistics of daily market return is less than 1.65, which means that there is over reaction at NSE. The researcher found that there was a statistical significant evidence of overreaction at NSE. The researcher found that there was a statistical significant relationship between size of firm and overreaction at NSE. The findings support the hypothesis that there is over reaction of market at NSE. Size of the firms at the NSE did not influence the magnitude of the overreaction. The study recommends the stock authority to focus on increasing the GDP of the NSE. Government policy makers will have to consider the recurrent expenditure and reduce it since it negatively impacts on the real side of the economy.