The Effects of Interest Rates on Stock Returns of Listed Commercial Banks in Kenya

Abstract

Interest rate is the borrower’s cost on a loan and the lender’s reward on investment. Interest rates affect individual’s decisions about whether to spend more or save. It also affect business decisions about whether to expand operations or invest in financial markets and as such savers must evaluate the interest they will earn, and the rate of return on their investment, to select the financial instrument that offers them the best deal. Interest rates are fundamental to a capitalist society and are normally expressed as a percentage rate over the period of one year. Interest rate as a price of money reflects market information regarding expected change in the purchasing power of money or future inflation. On the other hand, commercial banks occupy a significant position in the transmission of monetary policy through the financial market. Furthermore, commercial banks have assets and liabilities which are interest rate sensitive, and their stock returns are believed to be particularly responsive to changes in the central bank base lending rates. Therefore, this study investigated the sensitivity of central bank interest rate changes on stock returns of listed commercial banks in Kenya for nine year period, from 2006 to 2014. The study used a hybrid of cross sectional and longitudinal quantitative surveys method, applying regression model on the secondary data from the 11 listed commercial banks in Kenya. The study found out that the sensitivity of average monthly changes in central bank interest rates (CBR) on the stock returns of the listed commercial banks in Kenya from 2006 to 2014 varied, depending on the characteristic of the individual bank. Hence, listed commercial banks’ managers in Kenya should monitor, keenly, the changes in the central bank interest rates and make investor related decisions accordingly