Interest Rate and Stock Prices – Evidence from India

Abstract

This paper analyses the relationship between interest rates and stock prices in the context of India. The objectives of the paper are to investigate the impact of interest rates on stock prices and build a model for forecasting stock prices based on interest rates. Karl Pearson’s coefficient of correlation and linear regression model have been applied on the time series data of eleven sectoral indices published by National Stock Exchange and Bank rates published by Reserve Bank of India for a 10 year period from 2005 and 2014. Karl Pearson’s coefficient of correlation is tested for significance and coefficient of determination is also computed to assess the extent of fit of the regression model in forecasting the stock prices. The results show that six sectors (auto, bank, FMCG, financial services, IT and Pharma) out of eleven sectors were significantly impacted by the interest rate. The overall market represented by the market index (Nifty Fifty) was also impacted by the interest rate.

Keywords: Interest rate, Stock prices, Karl Pearson’s coefficient of correlation, Linear Regression Model