Stock Market Volatility and Weak-form Efficiency: Evidence from an Emerging Market

There exists a vast literature on modeling and estimatingaggregate stock market volatility over the past decade [e.g., Choudhry(1996); Mecagni and Sourial (1999) and Kabir, et al. (2000)].Motivations for undertaking this exercise have been varied. Manyvalue-at-risk models for measuring market risk require the estimation ofvolatility parameter. Portfolio diversifications and hedging strategiesalso require information on volatility as a key input. Volatility isdefined as tendency of the assets price to fluctuate either up or down.Increased volatility is perceived as indicating a rise in financial riskwhich can adversely affect investor assets and wealth. It is observedthat when stock market exhibit increased volatility there is a tendencyon part of the investors to lose confidence in the market and they tendto exit the market. The nexus between volatility and economicfundamentals is still a moot point. Stock prices reflect information andquicker they are in absorbing accurately new information, more efficientis the stock market in allocating resources. The increase in volatilitycan be attributed to absorption of new information about economicfundamentals or some expectations about them. This kind of volatility isnot harmful as there is no social cost associated with it. But ifincreased volatility is not explained by the level indicated by thefundamental economic factors, there is a tendency that stocks will bemispriced and this will lead to misallocation of resources [Karmaka(2006)].