A study of lead-lag relation between FIIs herding and stock market returns in emerging economies: evidence from India

Abstract

Liberalization of financial markets in emerging economies usually leads to an increase in the foreign ownership of the host country’s stocks. Heavy investment of these foreign investors may have deep impact on host country’s stock market. The motivation for this study is to understand the investment pattern of foreign institutional investors (FIIs) and their trading behavior, and its impact on the stock market. The present study is an attempt to evaluate the investment pattern of FIIs’ investment and its relation to the stock market return in the Indian stock market. Daily data from January 2003 to June 2014 has been collected and analyzed with vector auto regression and multivariate regression models. The results of the study suggest the prevalence of unintentional herding among FIIs that creates short term volatility in the Indian stock market. FIIs’ herding tendency is more intense on the buy-side rather than the sell side. Although the impact of FIIs’ herding creates short-term volatility, it may still impede the price efficiency of the stock market.