Exchange rate volatility and foreign portfolio investment in Nigeria

Abstract

The study examines the link between exchange rate volatility and foreign portfolio in Nigeria using data that covers the period 1996Q1 to 2016Q4. The theoretical framework used is the return and creditworthiness model, which is based on the push and pull factors theory. In achieving the objective, the study adopted the vector autoregressive model in ascertaining the dynamics between exchange rate volatility and foreign portfolio investment in Nigeria. Also, the study examines the impact of exchange rate innovations (shocks) on foreign portfolio investment and equally assesses how induced variations in foreign portfolio investment are decomposed among the variables in the model. It was also found that exchange rate volatility and market capitalization significantly and largely explain the variations in foreign portfolio investment. The impulse response analysis shows that foreign portfolio investment was more responsive to standard deviation shocks in market capitalization and exchange rate, implying that these variables were more responsible for the dynamism in FPI. As the horizons expand, shocks to market capitalization and exchange rate increase foreign portfolio investment, whereas shocks to GDP and inflation made foreign portfolio investment dwindle. In the same manner, in decomposing the induced variation in foreign portfolio investment, forecast error shocks in market capitalization, exchange rate and GDP explain more of the variation in foreign portfolio investment.