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ssrn.com/abstract=1649439

VALUATION AND PRICING OF EQUITY SECURITIES IN AN EMERGING

DEPARTMENT OF BANKING AND FINANCE

2. Review of Related Literature

3. Methodology of the Research

4. Presentation and Analysis of Data

5. Summary of Findings

6. Conclusions and Recommendations

ABSTRACT

In finance, there is widespread agreement that the Capital Asset Pricing Model (CAPM) and

Whitbeck-Kisor Model (WKM) are good predictors of share price movements in stock

markets. While the above assertion had been empirically validated in several stock markets in

developed economies, there have been few such studies in the stock markets of developing

economies like Nigeria. Such studies have now become imperative given the recent

developments that have seen the Nigerian stock market capitalization increasing from N276,

111,743,197.30 on January 2, 1998 to N10, 180,292,984,225.00 on December 31, 2007

without a relative increase in the volume of stocks being traded. To this effect, the major

objective of this study is to examine the relevance of some of the established models that

guide stock price movements in the Nigerian context. For this study, particular reference is

placed on the banking sector, which dominates other sectors in terms of market capitalization

and volume traded in the Nigerian Stock Exchange market. Data for this research were

collected mainly from secondary sources such as audited annual reports of sampled banks,

periodicals, various publications of Central Bank of Nigeria such as annual reports and

statistical bulletins, Daily official lists and statistical year books of Nigerian Stock Exchange,

different publications of Securities and Exchange Commission and Nigerian Deposit

Insurance Corporation. The data set for the study consists of all the 23 pre-consolidation

and 20 out of the 21 post-consolidation bank equity stocks quoted on the Nigerian Stock

Exchange. Spring bank was not included because it has not published any financial

statements after the bank consolidation exercise. The study covered an eight year period

(2000-2007), pre and post bank consolidation periods. Three hypotheses were tested using

the Capital Asset Pricing Model (CAPM) and Whitbeck-Kisor Model (WKM), multiple linear

regression model, and Pearson product moment correlation coefficient. The findings of the

study show that the application of the Capital Asset Pricing Model(CAPM) to Nigerian

ssrn.com/abstract=1649439

significant relationship between the price-earnings ratio and the level of earnings growth,

dividend payout ratio, and the variability of earnings of the sampled stocks in the Nigerian

Stock Exchange market from 2000-2007.

1. Introduction

1.1 Background of Study

As we know, Research is an organized enquiry or investigation into any subject area of

interest with the aim of providing information for solving identified problem(s). It can be a

revision of accepted theories in the light of new facts or practical application of such new or

revised theories. A research interest can come up from assertions that are subject to validation

or phenomena characterized by controversy and need investigation to find out more.

In the field of finance there are so many such assertions. In finance, there is widespread

agreement that the Capital Asset Pricing Model(CAPM) and Whitbeck-Kisor Model(WKM)

are good predictors of share price movements in stock markets. While the above assertion

had been empirically validated in several stock markets in developed economies, there have

been few such studies in the stock markets of developing economies like Nigeria. Such

studies have now become imperative given the recent developments that have seen the

Nigerian stock market capitalization increasing from over N276billion on January 2, 1998 to

over N10trillion on December 31, 2007 without a relative increase in the volume of stocks

being traded. The fluctuations in stock prices at times do not make economic sense given the

economic reality of the companies. Sometimes stock prices get ahead of what the underlying

business would earn, just as sometimes they fall below. The model(s) that guide this cycle are

quite hazy and there is need to unravel the mystery surrounding the issue of share price

movement.

1.2 Statement of Problem

In Nigerian stock exchange, the appropriate valuation and pricing of securities have remained

problematic. As it were, there seems to be no clear-cut method of fixing share prices in the

2. To apply the Whitbeck-Kisor Model(WKM) to the Nigerian banking sector data and from

Which of the valuation models better explains the price movement of the subject-banks’

stocks in the Nigerian stock exchange?

H1: From the perspective of the Capital Asset Pricing Model(CAPM), the subject-banks

stocks were not correctly valued.

H2: From the perspective of the Whitbeck-Kisor Model(WKM), the subject-banks stocks

were not correctly valued.

H3: None of the valuation models guides the valuation and pricing of ordinary shares of the

subject-banks in the Nigerian stock exchange.

1.6 Scope of Study

Companies quoted on the Nigerian stock market are segregated into many sectors but the area

of interest to the researcher is the banking sector. The decision to research only on banking

stocks is informed by the fact that banks are the major financier of other sectors and hence

banking stock prices should influence the price of stocks in other sectors. The banking sector

also dominates other sectors in terms of market capitalization and volume of equity traded in

the market. Therefore, the findings and conclusions to be derived from this work were as

related to the banking stocks in Nigeria. The study covers the period of eight years (2000-

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overall gross domestic product of the nation is bound to increase, as more income will be

generated by the investors. For an investor, it represents a pivotal area around which sensible

investment and financing decisions revolve. The profitability of trading on financial

instruments depends on proper valuation. Therefore when deciding on the investment

structure of an investor, the findings from this study become helpful to the investor. When

deciding on which stock to transact in order to have a justifiable reward valuation is needful.

This work will bring to light and remind potential investors the valuation status of the

Nigerian banking stocks. This knowledge will help them to make informed investment and

financing decisions that can enhance their investment value, which is a sure way to wealth

creation and poverty eradication. Undoubtedly, the study will provide a basis upon which

other researchers in the capital market issues can explore other sectors of the market.

1.8 Limitations of the Study

One major limitation of this study is the unavailability of complete data for 2008 and 2009.

The inclusion of the two years data would have made the work a more recent study and

perhaps would have generated a better result.

2.0 Review of Related Literature

Recall the modern theories underlying the value and market price of securities. Fama(1970)

supported by Patell and Wolfson (1984), Seyhun (1986), Gosnell, Keown and Pinkerton

(1996) are of the view that under efficient market share prices fully and fairly reflect all

relevant available information about the stock. They termed a situation like this efficient

market hypothesis(EMH). Their view was punctured when some anomalies which cannot be

explained within the paradigm of the EMH were detected in the behaviour of stock market

prices as evidenced by a number of research findings such as January effect by Rozett and

Kinney(1976); Weekend or Monday effect by French(1980), Agrawal and Tandon(1994),

Lakonishok and Maberly(1990); Turn of the month effect by Cadsby and Ratner(1992),

Haugen and Lakonishok(1988), Ariel(1987); Pre-Holiday effect by Ariel(1990), Cadsby and