Impact of oil prices and exchange rates on major sectoral indices in India

• Author: AM Muhammad Ashiq,G. Shanmugasundaram
• Published date: 01 June 2020
• Date: 01 June 2020
• DOI: http://doi.org/10.1111/opec.12177

Impact of oil prices and exchange rates on

major sectoral indices in India

AM Muhammad Ashiq*,** and Dr. G. Shanmugasundaram***

Assistant Professor, *Department of Commerce, Kristujayanti College (Autonomous), Bangalore,

Karnataka, India.

Senior Research fellow, **Department of Commerce, Pondicherry University, Pondicherry, India.

Email: ashiqx2@gmail.com.

Professor (Retired), ***Department of Commerce, Pondicherry University, Pondicherry 605014, India.

Abstract

Crude oil consumption is growing withthe pace of the economy in India. More than 80% of India’s

crude oil requirements is met from imports, and millions of Dollars are paid out for purchasing this

inevitable resource. It is logical to assume that the sectors, which will be most affected by oil price

changes, would belong to the oil-related industrial sectors.In this context, this study is attempted to

see how the oil price and exchange rate impact different sectoral indices in India using the ARDL

model for the period from 1999 to 2018. From the empirical findings, we can summarise that

dynamics in the exchange rate market have affected the stock prices of various sectors more than

the crude oil prices in the Indian context. The reason for the oil price not showing a significant

impact on any of the sectoral indices could be the significantly higher and lowercrude oil prices that

have prevailed within the study period, which could have offset this impact.

1. Introduction

The sensitivity of stock prices to various macroeconomic variables is of growing interest,

particularly in the case of emerging markets. In the recent past, there were some studies that

analyse the impact of fluctuations in crude oil prices on stock market as a whole, but studies

that specifically examine the impact on stock market sectoral indices are only a few. Oil

price fluctuations affect certain economies like the oil-dependent countries more than the

others do. This impact will be again different for different sectors of the stock mar ket.

Sectors that are more oil intensive will be definitely affected by any variations in oil prices.

In this scenario, after seeing the interactions among oil price, exchange rate and stock market

in oil-importing and oil-exporting countries as a whole, the researcher is interested to what

extent the oil price impacts different sectoral indices in the home country, India.

It is logical to guess that the sectors, which will be most affected, would belong to

the oil-related industrial sectors (oil exploration, production, refining, etc.), the highly

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oil-intensive manufacturing industries (iron and steel, fertiliser, chemical, etc.) and the

high oil-consuming transportation sector (airlines, trucking, railroads, etc.). In all these

sectors, crude oil is directly or indirectly an input or output. This means that the impact

will vary according to the fact that how these sectors are subject to oil price risk, both as

an input or as output.

Coming to the Indian context, more than 80% of the Indian crude oil requirement is

met from imports, and millions of Dollars are paid out for purchasing this inevitable

resource. Crude oil consumption is growing with the pace of the economy. The

increasing demand coming from the new initiatives of the government to shift the focus

sector from service sector to manufacturing areas is expected to increase further in the

coming years. According to the latest oil consumption and output projections reported by

leading energy sector publications including International Energy Agency (IEA), British

Petroleum (BP) and Organization of Petroleum Exporting Countries (OPEC), India,

besides China, is expected to be the leading economy in terms of energy and oil demand

growth up to 2040.

Higher demand means a rise in crude oil imports, and this leads to an increased need

for foreign exchange requirement for crude oil trade. As the crude oil settlements are

made in dollar terms, the exchange rate also plays an important role. The growing

demand for crude oil will affect the economy’sfiscal condition and could lead to

inflation. Under this scenario, any increase in crude oil prices has the power to cause

more pressure on inflation. Therefore, oil price volatility would have an effect on

economic activity, and this, in turn, influences the stock market.

The heterogeneous effect of oil price changes across different sectors is usually

masked while studying the stock market oil price relationship as a whole. The study on

the relationship between crude oil prices, exchange rates and sectoral stock indices is

useful for understanding the dynamics of the financial market, risk diversification,

portfolio management and so on. Given the need for such a study, the researcher is

interested to see how the oil price and exchange rate impact different sectoral indices in

India.

2. Review of literature

Several studies have tried to explore the relationship between the price of crude oil and

stock markets and have reported various reasons for the relevance of such studies. In

contrast, works of literature studying such a relationship on sectoral stock indices are few

to the best of our knowledge. In fact, many studies like Nath Sahu et al. (2014) on the

effect oil shocks on the aggregate stock prices have pointed the requirement for studying

such a relationship as a scope for future research.

©2020 Organization of the Petroleum Exporting Countries OPEC Energy Review June 2020

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