Stock prices and Macroeconomic indicators: Investigating a correlation in Indian context

TL;DR

This study investigates the relationship between stock prices and macroeconomic indicators in India, using a VAR model to forecast and analyze correlations, revealing strong links with exchange rate and money supply.

Contribution

It introduces a VAR-based forecasting approach to analyze macroeconomic and stock market relationships specific to the Indian economy.

Findings

High correlation between stock prices and exchange rate.

Strong link between stock prices and money supply.

Forecasted macroeconomic indicators align with actual market movements.

Abstract

The objective of this paper is to find the existence of a relationship between stock market prices and the fundamental macroeconomic indicators. We build a Vector Auto Regression (VAR) model comprising of nine major macroeconomic indicators (interest rate, inflation, exchange rate, money supply, gdp, fdi, trade-gdp ratio, oil prices, gold prices) and then try to forecast them for next 5 years. Finally we calculate cross-correlation of these forecasted values with the BSE Sensex closing price for each of those years. We find very high correlation of the closing price with exchange rate and money supply in the Indian economy.