Application of the arbitrage pricing model in predicting stock returns at the Nairobi stock exchange

Abstract

This study applies the multi-index (APT) to explore the relationship of NSE companies stock returns to selected market and industrial variables. In this study I have used a model i.e. the relative pricing (APT) model, to explain the expected returns at the NSE. Use of indices as well as unanticipated changes in economic variables as factors driving security returns are employed. Regression results on the variables are mixed; in particular, interest on loans and interest on savings are positively related to NSE stock returns, but the relationships are not significant. The results of this paper suggest that a multi-index APT using selected economic and industrial variables provides additional power in explaining the variability of NSE stock returns over a single index model using the market index alone. It is therefore noted that the inclusion of economic variables to a large extent improves the explanation of the cross-section of expected returns