Testing the nexus between stock market returns and inflation in Nigeria: Does the effect of COVID‐19 pandemic matter?

• Published date: 01 November 2020
• Author: Gylych Jelilov,Paul Terhemba Iorember,Ojonugwa Usman,Paul M. Yua
• Date: 01 November 2020
• DOI: http://doi.org/10.1002/pa.2289

ACADEMIC PAPER

Testing the nexus between stock market returns and inflation

in Nigeria: Does the effect of COVID-19 pandemic matter?

Gylych Jelilov

1

|Paul Terhemba Iorember

2

|Ojonugwa Usman

3

|

Paul M. Yua

4

1

Department of Economics, Nile University of

Nigeria, Abuja, Nigeria

2

Faculty of Social Sciences, Nile University of

Nigeria, Abuja, Nigeria

3

School of Business Education, Federal College

of Education (Technical) Potiskum, Potiskum,

Nigeria

4

Graduated from Nnamdi Azikiwe University,

Awka, Nigeria

Correspondence

Ojonugwa Usman, School of Business

Education, Federal College of Education

(Technical) Potiskum, Potiskum, Yobe State,

Nigeria.

Email: usmanojonugwa@gmail.com

Given the palpable fear generated by the threat of COVID-19 pandemic and the

bearish sentiments of stock investors, this study represents one of the first efforts

towards testing the effect of COVID-19 on the stock market returns-inflation rela-

tionship. Specifically, the study investigates the stock market returns–inflation nexus

by controlling for the effect of COVID-19 pandemic in Nigeria from February

27, 2020 to April 30, 2020. Using the estimation procedures based on the general-

ized autoregressive conditional heteroskedasticity type models (GARCH (1,1), the

GJR-GARCH), and the accounting innovation tests, our results show that COVID-19

increases volatility and distorts the positive relationship between inflation and stock

market returns, which tends to negate the Fisher's hypothesis. In addition, the results

reveal that the negative effects of COVID-19 on the market returns and its disrup-

tion to the stock market returns—inflation relationship may not die away rapidly con-

sidering that the duration of the pandemic is unknown. Further, these findings are

validated by the innovation accounting tests. Therefore, the study presents to

policymakers the consequences of COVID-19 and the urgent need to strengthen the

market through collaborative efforts.

1|INTRODUCTION

The outbreak of the novel coronavirus (SARS-CoV-2) code named

COVID-19, which start ed in Wuhan, the capital of Hubei Province in

the People's Republic of China around December 2019 has become

a global pandemic, exp anding rapidly across the planet with i nfection

cases and confirmed death rates nearing five million and four hun-

dred thousand respectively as at May18, 2020 (World Health Orga-

nization (WHO), 2020). Apart from the palpable fear that the

COVID-19 pandemic has created around the world, it has disrupted

global economic activities in a manner that has never been seen

since the 1918 influenza pandemic. Over a third of the global popu-

lation is currently under some forms of lockdown, border closures,

and extensive flight cancellations creating extreme disruptions to

business and tourism (Ayittey, Ayittey, Chiwero, Kamasah, &

Dzuvor, 2020). The economic consequences of the novel coronavi-

rus include interruptions to global supply and demand chains and

corresponding local food shortages, depressed asset prices, and

extreme uncertainty for both multinational and local businesses

(Yousef, 2020).

Of particular importance regarding the economic impact of

COVID 19 is the effect of COVID-19 pandemic on stock market vola-

tility in the presence of bubble prices (inflation). This is because, as

the uncertainties triggered by the pandemic continues, the effective-

ness of policy measures coupled with negative investors sentiments

and rising prices are likely to affect long-term investment decisions.

Regarding inflationary pressures, however, the Fisher (1930) hypothe-

sis otherwise known as the “Fisher effect”states that the expected

nominal stock market returns should be equal to expected inflation

plus the real rate of return. In effect, the hypothesis elucidates that

equity stocks represent claims against real assets of a business; and as

such, may serve as a hedge against inflation (Sokpo, Iorember, &

Usar, 2018). If this assertion holds, then investors could sell their

financial assets in exchange for real assets when the expected rise in

inflation is pronounced. In such a situation, Ioannides, Katrakilidis, and

Lake (2005) posits that nominal stock prices should fully reflect

Received: 2 June 2020Revised: 19 June 2020Accepted: 14 July 2020

DOI: 10.1002/pa.2289

J Public Affairs. 2020;20:e2289.wileyonlinelibrary.com/journal/pa© 2020 John Wiley & Sons Ltd1of9

https://doi.org/10.1002/pa.2289