The Random Walk Model in the Karachi Stock Market: An Empirical Investigation

Abstract

The study empirically investigates the weak form efficiency test in Karachi Stock Exchange. Augmented Dickey Fuller test and variance ratio test are used to investigate the weak form efficiency. The data used in this study is daily covered from January, 1995 to December 2011. Twenty-one companies are selected out of 659 companies listed with Karachi stock exchange. The methodology is to select these 21 companies is number of days trading. In order to avoid the possible bias Lo and MacKinlay, (1988) technique for a longer time period is used. Those companies are selected whose trading days are at least 3500 days during the study period. The result of ADF test for stationarity shows that the existence of random walk in KSE-100 index and all selected firms. However, the existence of random walk components in stock prices does not necessary implies that stock returns are unpredictable. The result of ADF test on the KSE-100 index and selected firms stock returns does not tell whether the short-term fluctuations dominate the stochastic trend components. With consideration of these aspects we apply variance ratio test. The results indicate that, it might reject the null hypothesis of random walk for all holding periods of KSE-100 index and all selected firms on the basis of variance ratio test which is statistically significant at 5 percent level. The weak for efficiency is prevailed in both reform period only.

Key Words:  Efficiency, Stock market, Random walk