Abstract
This research empirically tested the weak-form efficient market hypothesis of the Nigerian Stock Exchange (NSE) by hypothesizing normality of the return distribution series, random walk assumption and efficiency across time. Monthly all share indices of the NSE were examined for normal distribution and random walk from January 1993 to  December 2007,  as well  as two sub-periods of January 1993 to December 1999 and January 2000 to December 2007. Our normality  tests  were  made  using  skewness,  kurtosis,  Jarque-Bera  and studentized range tests; whereas weak-form efficiency was tested using the non- parametric Runs test for both total and sub-sample periods. The monthly return series, in aspect of skewness and kurtosis, were found non- normal, which can be categorized as negative skewness for all periods and playtykurtic distribution for total sample and sub sample2, while sub-sample1 showed  leptokurtic  distribution.  Same  thing  resulted  from  J-B  test  and studentized range. As a result, null hypothesis of normality in market returns was rejected and the alternative hypothesis remained in effect. The results of the Runs test for the observed returns show that the actual number of runs were fewer than the expected number of runs for all periods examined, thus indicating evidence of positive serial correlation in NSE monthly returns. The research further provided evidence to show that improvements in market microstructure of the NSE have positive effects on the weak-form efficiency of the NSE. Overall results from the empirical tests suggest that the NSE is not weak-form efficient. Relaxing institutional restrictions on trading securities in the market and strengthening the  regulatory capacities of NSE  and  Nigerian  Securities  and Exchange Commission to enforce market discipline were recommended.
CHAPTER ONE
INTRODUCTION
1.1 BACKGROUND OF THE STUDY
Efficient Market Hypothesis (EMH) asserts that in an efficient market, prices at all times fully reflect all available information that is relevant to their valuation (Fama, 1970). Thus, security prices at any point in time are unbiased reflection of all available information on the security’s expected future cash flow and the risk involved in owning such a security (Reilly and Brown, 2003:57). This implies that investors can expect to earn merely risk-adjusted return from all investment as prices move instantaneously and randomly to any new information (Kendal, 1953).
Market prices can at times deviate from the securities’ true value; these deviations are completely random and uncorrelated. Price changes are only expected to result from the arrival of new information. Given that there is no reason to expect new information to be non-random, period-to-period price changes are expected to be random and independent. In other words, they must be unforcastable if they fully incorporate the expectations and information available to market participants (Lo, 1997: xii).
Efficiency is categorized into three different levels according to the information item reflected in the prices. The three levels of EMH are expressed as follows: weak-form, semi–strong, and strong-form efficiency. The weak-form version of EMH asserts that prices of financial assets already reflect all information contained in the history of past prices, trading volume or short interest. Semi- strong version postulates that stock prices already reflect all the publicly available information regarding the prospects of a firm. Lastly, the strong-form posits that the prices of financial assets reflect, in addition to information on past prices and publicly available information, information available only to company’s insiders (Fama, 1970; 1991).
Early studies on testing weak-form efficiency started on the developed markets, generally agree with that stock markets are weak-form efficient based on low degree of serial correlation and transaction costs (see for example, Kendal,
1953; Cootner, 1962; Fama, 1965). All of these studies support the proposition that price changes are random and past prices were not useful in predicting future price changes particularly after transaction costs were taken into consideration.
However, there are some studies, which found the predictability of share price changes (anomalies) in developed markets but did not reach a conclusion about profitable trading rules (see, Fama and French, 1988; Lo and Mackinlay, 1988).
On the other hand, evidence of weak-form efficiency on the emerging markets has been diverse. The first group found weak-form efficiency in emerging markets (see, Olowe, 1999; Dickinson and Muragu, 1994; Chan et al., 1992). The other group provide evidence showing that emerging markets are not weak- form efficient (see, Appiah-Kusi and Menya, 2003; Cheung and Coutts, 2001; Claessens et al, 1995; poshakwale, 1996; Ntim et al, 2007)
The empirical literature on the weak-form efficiency of the Nigerian Stock Exchange (NSE) has, however, been very scanty despite the increase in size and public participation in the market in recent times. The few exceptions to our knowledge include Samuel and Yacout (1981), Ayadi (1984), Akpan (1995), Olowe (1999), and Appiah–Kusi and Menya (2003). This dearth of research, providing empirical evidence to support or dispute efficiency according to Simons and Laryea (2004), may explain why many African countries have not attracted much portfolio or equity investment as the Asian and Latin American countries. This shortcoming has adversely affected the country’s rapid economic transformations.
Hence, the need to provide further evidence on the weak-form efficiency of NSE is of paramount interest to investors (individual and institutional), regulators, academics, and the economy in general.
1.2 STATEMENT OF THE PROBLEM
Nigeria seeks to become one of the twenty largest economies in the world in the year 2020. The efficiency of stock market in this regard cannot be over- emphasized, for long-term fund is a critical factor in the economic transformation process. More so, stock markets afford investors the opportunity to diversify their portfolios across a variety of assets. Given these importance of efficient stock market, it is imperative to test the efficiency of the Nigerian Stock Exchange (NSE), since the extent to which the NSE is efficient affects not only vision 2020 but all those who invest on the bourse; be they individual or institutional investors.
Surprisingly, the NSE, which has been in operation since 5th July 1961, has had a few prior empirical studies analyzing it and their conclusion as to the predictability of future stock returns based on the past returns and volume traded have been diverse. For instance, Samuel and Yacout (1981) and Olowe (1999) found evidence of weak-form efficiency, whereas Akpan (1995) and Appiah-Kusi and Menya (2003) found the market weak-form inefficient. The dearth of empirical literature is not healthy for the country’s aspiration to become one of the twenty largest economies in the world since polices that seek to attract foreign portfolio investment should be informed by some empirical evidence on the stock market efficiency.
Furthermore, market microstructure existing evidence suggests that improvement in trading system, market capitalization, membership; value and volume traded lead to improvements in liquidity and market efficiency (Amihud et al, 1997; & Suzuki and Yasuda, 2006). The NSE has shown considerable improvements in
trading system. for instance, it established Central Securities Clearing System (CSCS) in 1997 for clearing and settlement of securities transactions, changed from call-over system to automated trading system in 1998 (Bellow, 2002). Membership of the exchange increased from 194 in 1981, 260 in 2000 to 310 by
2007. Market capitalization also increased from N5 billion in 1981, N472.3 billion in 2000 to N7, 764 billion by April 2007 ; NSE, 2005; Bellow, 2002). Accordingly, it can be conjectured that there should be commensurate improvements in market efficiency of the NSE.
Testing the absolute efficiency of a market does not seem to be the most informative method of gauging the efficiency of a given market (Campbell, et al.,
1997:24). Relative efficiency – the efficiency of one market or one index, measured against the other, appears to be a more useful concept than the view taken by traditional literature. Even more useful will be the concept of measuring a market’s efficiency across time to find if the level of efficiency has changed. This is in accord with Rahman and Hossain (2006) conclusion that market efficiency changes over time and that stock market is subject to be tested continuously. This study will, therefore, examine the weak-form efficiency of the NSE both in absolute and relative terms.
1.3 OBJECTIVES OF THE STUDY
The major objective of this study is to examine whether the Nigerian Stock
Exchange is Weak-form efficient. The specific objectives are as follows:
1) To determine whether the stock returns in the NSE Follow normal distribution.
2) To examine whether the stock returns in the NSE follow a random walk over the time period of this study.
3) To compare weak-form efficiency evidence across time for the NSE.
1.4 RESEARCH QUESTIONS
The answer to the following questions will guide us in collecting materials for this research:
1) What is the distributional pattern of the NSE stock returns?
2) Are the stock returns in the NSE random over the time period of this study?
3) What is the nature of the NSE weak-form efficiency across time?
1.5 RESEARCH HYPOTHESES
As a follow up to the research questions and objectives of this study, the following hypotheses are tested:
Ho1 The stock returns in the NSE follow the normal distribution.
Ho2 The stock returns in NSE are random over the time period of this study. Ho3 The NSE is weak-form efficient across time.
Though hypotheses of normality and randomness are complementary, we use them simultaneously in order to establish the robustness of the analysis.
1.6 SCOPE OF THE RESEARCH
This study will focus on empirical investigation of the weak-form efficiency evidence on the NSE within the framework of the efficient market hypothesis. It will cover period of fifteen years – from January 1993 to December 2007.This period covers the aspect dealing with our statistical analysis. It is also the period in which security pricing is deregulated in the Nigeria capital market.
1.7 SIGNIFICANCE OF THE RESEARCH
This research empirically examines weak-form efficiency evidence on the Nigerian Stock Exchange (NSE). It will be of significance to investors, regulators and academics in the following ways.
To the investors: This study is timely especially now that share ownership is gaining increasing popularity by the day in Nigeria. From its findings, investors will formulate investment strategy for trading in the NSE. If, for instance, evidence of weak-form efficiency does not hold for NSE, Investors can earn abnormal profit by adopting active investment strategy since future share returns can be forecasted from past returns, otherwise passive investment strategy my be the best option (Bodie et al., 1999;337).
To The Regulators: This study will provide evidence that will assist Securities and Exchange Commission (SEC) and NSE in formulating polices towards improved performance, efficiency and development of the market.
To The Academics: This study will contribute to knowledge and the extant literature to be referred to by researchers. It will also throw more light on the empirical evidence on weak-form efficiency of the NSE and extend the existing evidence by using recently available data. In addition, it will possibly spur other research work aimed either sustaining or debunking its evidence.
1.8 Limitation of the Study
This research focuses on empirical examination of the weak-form efficiency evidence on the NSE within the framework of the efficient market hypothesis. As with other studies of emerging stock markets, especially African stock markets, we have to contend with data availability problems. Most of the available data are on restricted basis as subscription to the relevant exchange is required to access them. To represent the whole market, this study makes use of monthly market
indices rather than prices of individual securities. We also use longer sample periods and therefore more data to combat thin and infrequent trading, which are major sources of bias in such studies.
Aside data constraints, we also experienced financial difficulties which restricted our subscription for access to data. However, these limitations could not affect the outcome of reliable evidence on weak-form efficiency of NSE based on current data and sound econometric model and analytical tools.
1.9 DEFINITION OF TERMS
Active Investment Strategy: Active investment strategy is an attempt to achieve portfolio returns more than commensurate with risk either by forecasting broad market trends or by identifying mispriced securities in the market (Bodie et al,
1999)
Anomalies: Anomalies are evidence that seem inconsistent with the efficient market hypothesis.
Automated Trading System (ATS): ATS is a method of trading on quoted securities using network of computers linked to each other (Bello, 2002).
Bull Market: A bull market is a market that is on the rise. It is typified by a sustained increase in market share prices. In such times, investors have faith that the uptrend will continue in the long term.
Call–Over System: Call over system of trading in securities is a system whereby stockbrokers gather at the floor of the exchange at a particular time in the morning, the listed securities are read out aloud while brokers indicate their interest by shouting offer (for sale) or bid (to buy). The call–over clerk confirms each deal (Bello, 2002).
Correction: A reverse movement, usually negative, of at least 15% in a stock, bond, commodity or index. Corrections are generally temporary price decline, interrupting an uptrend in the market or asset.
Filter Rule: Filter rule or technique is a rule for buying or selling a stock depending on past movement of the stock.
Intrinsic Value: Intrinsic value is the value derived by evaluating and analyzing performance indicators of a share. It denotes the best valuation of a share and that the expected return is commensurate with associated risk of the share.
Market Microstructure: Market microstructure is concerned with the functional set-up of a financial market. It deals with trading on financial assets such as shares and bonds. It deals, also, on the manner in which financial assets are traded and how that process affect the prices of assets traded, volume traded and the behaviour of traders. It is also concerned with the efficiency and liquidity of the markets.
New information: New information is any news, good or bad, that is yet to be disseminated to the market participants.
Passive Investment Strategy: Passive investment strategy is buying a well- diversified portfolio to represent a broad based market index without attempting to search out mispriced securities (Bodie et al., 1999).
Random: Random here means that period-to-period price changes should be statistically independent and unforcastable. Price movements result from responses to information and since new information arrives unpredictably, price changes should be unpredictable.
Risk-adjusted returns: Risk-adjusted return is the profit from stock trading commensurate with the risk of the stock.
Serial Correlation: Serial correlation is the tendency for stock returns to be related to past returns.
Stock Market Bubble: Stock market bubble occurs when a wave of public enthusiasm, evolving into herd behaviour, causes an exaggerated bull market.
This material content is developed to serve as a GUIDE for students to conduct academic research
EMPIRICAL TEST FOR WEAK-FORM EFFICIENT MARKET HYPOTHESIS OF THE NIGERIAN STOCK EXCHANGE
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