The Effect of Lending Interest Rates on Stock Returns of Commercial Banks Listed in Nairobi Securities Exchange in Kenya

Abstract

The stock returns of quoted companies are greatly affected by changes in central bank rates which affect lending rates due to changes in the cost of capital. This fluctuation in interest rate has played a key role in the witnessed poor performance among not just the quoted but also the unquoted commercial banks. For the last five years, Kenya has witnessed bank failure Dubai Bank Ltd, Imperial Bank and Chase bank and more recently, Equity bank recorded decline in its stock returns and net profits and attributedthis anomaly to interest rates. Even though this is the case, the correlation between stock returns and interest rate is unclear. The effects of changes in lending interest rate to the stock returns of financial institutions that are registered with Nairobi security/stock exchange is not clearly documented in Kenya. This study aimed to establish the effect of Lending rates on stock returns of commercial banks listed at the NSE between the year 2012 and 2016. By using an explanatory research design on secondary data collected between 2012 and 2016 as well as running ordinary least square and correlation analysis, the study established that an increase in lending rates leads to a decrease in stock returns of commercial banks listed at NSE. The study also established that deposit rates have a positive and significant effect on stock returns of commercial banks listed at NSE while inflation rate and GDP growth rate don’t have a significant effect on stock returns. The study findings led to the recommendation that the commercial banks listed at NSE should come up with lending policy which aims to adjust the lending rates accordingly in order not to go beyond a point where it negatively affects its share prices. The study also recommends that there is a need for the commercial banks listed at NSE to adjust its deposit rates upwards but below the lending rates in order to attract more depositors thus improving its share prices at NSE and thus pushing stock returns upwards.