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MF
33,7
Market efficiency, time-varying
volatility and the asymmetric
effect in Amman stock exchange
490 Haitham Al-Zoubi
The Hashemite University, Department of Banking and Finance,
Jordan/Zarga, Jordan, and
Bashir Kh.Al-Zu’bi
Department of Economics, University of Jordan, Jordan/Amman, Jordan
Abstract
Purpose – The purpose of this paper is to empirically examine the market efficiency, asymmetric
effect and time varying risk–return relationship for daily stock return of Amman Stock Exchange
(ASE).
Design/methodology/approach – The Box–Jenkins selection model is used to determine the
stochastic process of equity returns; the exponential generalized autogressive conditional
heteroscedesticity (EGARCH) and threshhold autoregressive conditional heteroscedasticity in mean
are utilized to measure the persistent of volatility, risk–return relationship and volatility magnitude to
bad and good news.
Findings – The univariate statistics show negative skewness, excess kurtosis and deviation from
normality for the ASE index. The results show that stock return follows an ARMA (1, 1) stochastic
process with significant serial correlation, implying stock market inefficiency. The results also show
significant positive relationship between equity return and risk in the ASE, which is consistent with
the portfolio theory. The EGARCH model suggests the existence of the asymmetric effect.
Originality/value – The paper offers insights into market efficiency, time-varying volatility and
asymmetric effect in the ASE.
Keywords Stock exchanges, Financial markets, Stock returns, Jordan
Paper type Research paper

Managerial Finance
Vol. 33 No. 7, 2007
pp. 490-499
# Emerald Group Publishing Limited
0307-4358
DOI 10.1108/03074350710753762
1. Introduction
While empirical studies of market efficiency and return–volatility behavior are
plentiful for developed stock market, the attention of researchers on developing and
emerging stock markets has only begun in recent years. The last decade has been one
of rapid growth in international capital flows as a Foreign Direct Investment, with this
growth has come attendant for all developing countries to improve their capital
markets. Not surprisingly, financial markets grown in size and changed in nature to
meet international investors wants of diversifying their portfolios across the globe. As
a result, huge empirical studies examining the efficiency and other properties of these
markets were introduced as an information window to rationalize the investor choice
and to help policy makers in conducting economic policy.
A number of papers (Harvey and Berart, 1995; Bekart, 1995; Kim and Singal, 1999;
Choudhury, 1996) have examined market efficiency and the risk–return behavior in a
number of emerging markets economizes. Fama (1965) has found that stock prices
exhibit fatter tails than a normal distribution. While market efficiency and return–
volatility behavior have been examined for many emerging markets, it has not been
The authors are very grateful to Neal Maroney, Jennifer O’ Sullivan, Atsuyuki Naka, and Elton
Daal for their comments and suggestions.
examined for many capital markets like that of Jordan. The examining of market Market efficiency
efficiency, persistence of volatility, risk–return behavior, and the magnitude of in ASE
volatility are very important to Jordan as a country looks for attracting foreign
investment as a main channel of boosting economic growth.
Stock market plays a vital role in modern society. It increases the investment
opportunities by reallocating capital to the most productive users. By facilitating
diversification across large number of assets, a stock market can be concerned as the 491
most important tool in reducing the risk that investors bear. This reduces the cost of
capital that enhances investment and economic growth. However, volatility and market
efficiency are two important features that ultimately determine the effectiveness of
stock market in the developing economize.
Inefficiency in the stock market creates barriers to investors, which could lead to
market failure. For example, market inefficiency may slow down the flow of
information on corporate performance for the participants, which creates difficulties
for investors to allocate their funds optimally among different types of investments.
The resulting uncertainty may induce the investors to withdraw from the market until
this uncertainty is resolved or discourage them from investing for the long-term.
Moreover, if investors are not rewarded for taking on the higher risk of the stock
market, or if the excess volatility weakens investors’ confidence, they will not invest
their savings in the stock market, and hence deter economic growth.
The aim of this study is to examine stock return distribution, sationarity and
stochastic process of Amman financial market (AFM). In particular, it examines the
issue of market efficiency, time-varying risk–return and news effect on the magnitude
of volatility for this emerging equity market. The daily data set dating back to 1990 has
not been utilizing before and part of it is collected handily from different monthly
publication of Amman stock exchange (ASE) (Tables I–III). We employ exponential
and threshold generalized conditional heteroskedasticity in the mean introduced by
Nelson (1991) and Zakoian (1991), respectively, to examine time persistent of volatility,
time-varying risk–return relationship and volatility magnitude to bad and good news
in ASE. The autoregressive conditional heteroscedesticity (ARCH) family modes is
efficiently capable to examine the relationships when the hetroscedasticity appears in
time-series models as a result of the reflection of the way in which the variability of the
dependent variable changes systematically over-time (Engle, 1982). This may result in

Year Industrial Banking Services Insurance Total

1978 26 11 7 13 57
1980 32 13 12 14 71
1982 39 16 13 18 86
1984 44 21 16 22 103
1986 42 23 18 20 103
1988 42 23 22 20 107
1990 43 22 20 17 102
1992 40 18 19 17 94
1994 45 18 19 17 99
1996 42 19 19 17 98
1998 47 16 19 16 98 Table I.
Number of listed
Source: Various Amman bourse annual reports companies in ASE
MF leptokurtosis, skewness, and volatility clustering which is observed on general
33,7 financial data.
One advantage of the exponential ARCH (EARCH) and threshold ARCH (TARCH)
models, used in this study, over the generalized ARCH (GARCH) model is that the
former models can capture what is called the asymmetric effect of returns introduced
by Black (1976) where stock returns are negatively correlated with changes in return
492 volatility, which implies that bad news has much stronger effect on stock prices than
that of good news. This is well know in the literature as the leverage effect which if it
exist implies that market participants face a utility function; that is increasing at
decreasing rate with respect to the level of consumption. That is the real value of one
unit of the medium of exchange is a decreasing function of investors’ wealth (i.e.
investors have a decreasing marginal rate of substitution in their utility function).
The paper is divided into six sections. Following the introduction in section 1,
section 2 provides a brief overview of ASE. Section 3 discusses the methodology and
data. Section 4 discusses the statistical properties of the stock prices and returns in
ASE. Section 5 analyzes the empirical results of the models. Section 6 concludes the
paper.

2. ASE: a brief description

The AFM was established through a temporary Law No. 31 of the year 1976, and
started its business on the first day of year 1978. It’s establishment was an important
step toward regulating and developing the financial sector in Jordan, in order to
achieve a better utilization of domestic as well as foreign financial resources through
the development of an efficient capital market. It will ease, facilitate and speed the
trading to safeguard the financial interest of Jordan.
The visibility of the AFM is superior to other markets in the region; it has
undergone accelerated growth especially during the last decade. Also Jordan is

Year Banks Insurance Services Industry Total % change

1995 149.6 7.4 82.0 123.1 362.1 (15.8)

1996 83.1 3.1 42.5 82.0 210.7 (41.8)
1997 165.4 4.5 31.4 102.8 304.1 44.3
Table II. 1998 191.0 5.1 24.1 193.4 413.6 36.0
Trading volume of the 1999 125.1 6.8 29.7 181.0 342.6 (17.2)
regular market by sector
(1995-1999) (JD million) Source: Various Amman bourse annual reports

Year Banks Insurance Services Industry Total % change

1995 1,883 130.8 129.9 130.0 159.2 10.8

1996 194.4 120.8 115.3 116.2 153.5 (3.6)
1997 232.3 122.9 116.6 115.5 169.2 10.3
Table III. 1998 281.7 124.7 109.0 76.9 170.1 0.5
Price index weighted by 1999 251.9 123.7 110.6 96.2 167.4 (1.6)
market capitalization
(1995-1999) (1991 ¼ 100) Source: Various Amman bourse annual reports
represented on the board of International accounting standards. The objectives of the Market efficiency
AFM were laid in the Law as follows: in ASE
(1) To mobilize and to channel savings in order to serve the interest of the national
economy through encouraging investment in securities.
(2) To regulate issuance of and trading in securities.
(3) To provide the necessary data and statistics to achieve the AFM objectives. 493
The Jordanian Government adopted a sound capital market reforming policy in 1997.
The objective was to restructure and to regulate the Jordanian market in accordance
with the international standards and to ensure transparency and safe trading in
securities. This restructuring of capital market implies a separation of the function of
Jordan Securities Commission, as a supervisor and regulator from the executive role of
the capital market. Therefore two new institutions were established; the ASE and the
Securities Depository Center, to play the executive role and to be run by the private
sector. The ASE shifted into electronic trading system on March 2000, in order to
increase the efficiency and transparency in the security market. In fact this system
creates a suitable environment for trading by using the high technology, which will
enhance the ASE development. In addition to that the internal information network
was established in ASE in order to provide a database for achieving the goals of the
security market.
A closer look at the ASE activities, indicates that in year 2001, the number of traded
shares reached 340.6 million with a 49.1 per cent increase compared to that in year
2000. The volume of trading in year 2001 doubled compared to that in year 2000, in
addition to that the share price index in year 2001 reached 172.7 compared to 133.1 in
year 2000 (closing December 1991 ¼ 100).

3. Methodology and data

3.1 Methodology
The study examines the distribution of equity return by comparing the descriptive
statistics of ASE index. Market efficiency is tested with reference to the structure of
ARCH in mean. While most researchers agree that volatility is predictable in many
asset markets, they differ on how this volatility should be modeled. In recent years, the
evidence for predictability has led to a variety of approaches. The most interesting of
these approaches is the ‘‘asymmetric’’ or leverage volatility models, in which good news
and bad news have different predictability for future volatility. These models are
examined by empirical work of Black (1976), Frinch et al. (1987), Nelson (1991), Zakoian
(1991) and Glosten et al. (1993).
Black (1976) finds evidence that stock returns are negatively correlated with
changes in return volatility, i.e. volatility tends to rise in response to ‘‘bad news’’
(negative excess returns) and to fall in response to good news (positive excess returns).
However, if the magnitude of volatility response to bad and good news has the same
absolute value of correlation we say that bad and good news have a symmetric effect on
stock volatility. One implication of the symmetric effect of the arrival of new
information on stock returns is that investors have constant marginal rate of
substitution. Since the economic theory suggests that investors with convex utility
function face a decreasing marginal rate of substitution while there consumption of
goods is rising, one could predict that the response of stock returns will be much bigger
to the bad news than that to good news (the leverage effect). On the other hand, if good
MF news has a larger effect on stock return than the good news we say that stock prices
33,7 display an asymmetric effect[1].
The ARCH model introduced by Engle (1982) allows the variance of the error term
to vary over-time, in contrast the classical regression model, which assumes a constant
variance. Bollerslev (1986) generalized the ARCH process by allowing for a lag
structure for the variance, since stock returns are highly fluctuated the generalized
ARCH models, i.e. the GARCH models, have been found to be valuable in modeling the
494 time series behavior of stock returns (Akgiray, 1989; Frinch et al., 1987). Bollerslev
(1986) allows the conditional variance to be a function of the lag’s squared errors as
well as of its past conditional variances.
The higher order ARCH and GARCH models introduced by Engle (1982) and
Bollerslev (1986), respectively, are
X
P X
p

2t ¼ ! þ j "2t
1 ¼ 2
j Zt
j
2t
j ð1Þ
j¼1 j¼1
X
q X
p

2t ¼ ! þ Bi
2t
1 þ 2
j Zt
j
2t
j ð2Þ
i¼1 j¼1

where:
"t ¼
t Zt
Zt  i:i:d: with
EðZt Þ ¼ 0; VarðZt Þ ¼ 1 and

2t 2
¼
ð"t
1 ; "t
2 ; "t
3 ; . . . . . .Þ

Nelson (1991) shows that Equation (2) can be written as:

 X 1

2t ¼ ! þ 2
k Zt
1
2t
k
k
1


where ! and k are non-negative parameters. Nelson contradicts generalized ARCH
models in which GARCH models assume that only magnitude and not the positivity or
negativity of unanticipated excess returns determine the conditional variance
2t . If the
distribution of Zt is asymmetric, the future change in variance is conditionally
uncorrelated with excess returns today. In Equations (1) and (2),
2t is a function of
lagged
2t and lagged Zt2, and so invariant to changes in the algebraic sign of Zt (i.e.
only changes in the algebraic sign of lagged residuals determines conditional
variance). This suggests a model in which
2t respond asymmetrically to positive and
negative disturbance is preferable for empirical studies of assets pricing.
Another limitation that Nelson (1991) suggests, results from the non-negativity

constraints on ! and k in Equation (3) that is imposed in GARCH and GARCH-M
models to insure non-negative conditional variance.
The Exponential GARCH (EGARCH) introduced by Nelson (1991) and Threshold
ARCH (TARCH), which is introduced independently by Zakoian (1990) and Glosten
et al. (1993) is free of all these shortcomings, and they can robustly capture for
asymmetric effect that GARCH-M cannot. Lewis et al. (1992) mention that the existence
of asymmetric effect may give wrong estimate of the risk–return relationship if
GARCH-M is used. The higher order specification of the conditional variance in Market efficiency
TARCH model is: in ASE
X
q X
p

2t ¼ ! þ i "2t
i þ "2t
1 dt
1 þ j
2t
j
i¼1 j¼1

where dt ¼ 1 if "t  0, and dt ¼ 0 otherwise. In this model, good news ("t  0) and bad 495
news ("t  0), have differential effects on the conditional variance, good news has an
impact of , while bad news has an impact of  þ . If   0, we say that the leverage
effect exists. If  6¼ 0 the news effect is asymmetric.
The EGARCH or exponential GARCH model was proposed by Nelson (1991). The
specification for the higher order conditional variance is:


!
X p Xq
"t
i
"t
i
2
Logð
t Þ ¼ ! þ 2
Bj logð
t
j Þ þ

i

þ i
j¼1 i

t
i

t
i

Note that the left-hand side of the equation is the log of the conditional variance. This
implies that the asymmetric effect is exponential, rather than quadratic, and that
forecasts of the conditional variance are generated to be non-negative. The presence of
leverage effects can be tested by the hypothesis that   0. The impact is asymmetric if
 6¼ 0.
As the original GARCH model, the size and significance of j indicates the
magnitude effect imposed by the lagged error term ("t
1) on conditional variance
t2. In
other words, the size and significance of j implies the existence of the ARCH process
in the error term (volatility clustering).
Engle and Bollerslev (1986) show that the persistence of shocks to volatility can be
examined depending on the sum of the parameter of the Autoregressive and Moving
average component of
2t , i þ Bj, values of the sum lower than unity implies a
tendency for the volatility response to decay over-time. In contrast, values of the sum
equal or greater than unity imply indefinite (or increasing) volatility persistence to
shocks over-time.
The order of all GARCH models in this paper are estimated by generating a random
error series from ARMA (1, 1) process, that stock returns in ASE follow, and then
regress the squired residuals on lagged residuals and implying collologram analysis
and Breuch–Godfrey LM test to check for the order of the process.

3.2 Data
We gathered data for AFM (the lonely stock market in Jordan) from two sources. First,
we collected electronic data on ASE index from first of January 1994 to the 31st of July
2001 from (AFM) CD report. For the period spanning from January 1992 to July 2001,
the data was collected by hand from AFM monthly bulletin. The ASE index is
composed of all traded stocks (value waited) in the exchange. The index excludes
dividends.

4. Statistical properties of (ASE) equity price and returns

The study examines the stability of returns by employing CUSM-test to determine the
structural brake in the series. The Chow test is then estimated to insure the existence of
MF structural brake. Both tests suggest no structural change during the period of the
33,7 study.
Tables IV and V provide the statistical properties of ASE daily equity prices and
returns. The Jarque–Bera test is examined to test for normality, as it appears from the
table, ASE index shows negative skewness, excess kurtosis, and deviation from
normality. Fama (1965) shows that daily and monthly return distribution of Dow Jones
496 and NYSE indices are leptokurtic, negatively skewed and depart from normality.
Bekaert et al. (1998) provides evidence that the majority of emerging markets have
positive skewness, excess kurtosis, and non-parametric distribution.

5. Time-varying volatility and equity return of ASE

5.1 ARMA (1,1) process and capital market efficiency
Table VI shows the empirical findings of return process and market efficiency. The
equity returns are calculated as the first-order log difference of ASE index. The Box–
Jenkins selection method shows that stock returns follow significant ARMA (1,1)
stationary trend process, none of the autocorrelation functions or the partial
autocorrelation functions for the first 20 lags are significant. The Philips–Peron test is
utilized to check for the stationarity of the stock returns, the P-value of the test is below
0.05, which implies that stock returns are stationary. Since ARMA (1, 1) process is
significant the returns are predictable on the basis of past returns. As a result, we reject
the weak form of market efficiency (i.e. the past information is not reflected quickly on
stock price). This could arise from frictions in trading process, limited provision of
information of firms’ performance to market participants, and the lack of professional
financial analyst and brokerage houses that can analyze stock market returns for
investors. These findings suggest the modernization of trading system by setting more
requirements on listed companies, like an increasing in the disclosure requirements,

Table IV. Mean Standard deviation Minimum Maximum Skewness Kurtosis Jarque–Bera
Univariate statistics
for ASE index 150.3480 18.76767 100.6482 187.6626
0.781089 3.364288 251.5210

Table V. Mean Standard deviation Minimum Maximum Skewness Kurtosis Jarque–Bera

Univariate statistics for
ASE daily return 0.000154 0.006831
0.043102 0.047449 0.422161 8.781970 3336158

AR(1) parameter 0.266463 (0.01992)

MA(1) parameter 0.999783 (0.00034)
Mean of ACF 0.153894
Lijung-Box Q Statistic for 48 lags Insignificant
RMSE 0.0065872
SBC
16.7500
Table VI. Philips–Peron unit root test
36.29910*
ARMA (1, 1) process for
ASE daily return Note: *Significant at 1 per cent level
regulating general meeting between the shareholders and managers and forcing listed Market efficiency
companies to provide timely audited financial statements. in ASE
5.2 Time-varying, persistent and clustering of volatility
We present the empirical results of volatility and risk in Table VII. The hypothesis that
volatility is a significant determinant of stock returns is confirmed as the parameter ,
which is positive and statistically significant in both EGARCH and TARCH in mean 497
models, the result is consistent with the portfolio theory.
The squared error parameter () is positive and significant implies the existence of
ARCH process in the error term, this suggests the tendency of the shocks to persist
(volatility clustering). Since the sum of () and (B) is greater than or approximately
equal to unity, the tendency for volatility response to shocks display a long trend,
implying time-varying volatility in the equity returns in ASE.

5.3 Asymmetric and leverage effect in ASE

For equities, it is often observed that downward movements in the market are followed
by higher volatilities than upward movements of the same magnitude. Table VII
presents the asymmetric effect parameter (). In the EGARCH model, it is positive and
statistically different from zero, indicating the existence of asymmetric effect. Since ()
is positive, there is no leverage effect i.e. good news has higher impact on volatility
than that of bad news. In comparison with the TARCH model () is less than zero,
indicates the same result of () > 0 in the EGARCH model, but it is statistically
insignificant at 5 per cent level of significant (P-value ¼ 0.12).
The shape of news impact curve for ASE is differ than the normal phenomena, that
bad news followed by higher volatilities than that of good news, this might be
explained by market inefficiency in that companies tries to spread good news and hide
that of bad news. Another reason that we suggest is due to economic condition that
Jordan economy faces during the study period, since the economic sanction on Iraq, the
Jordan economy fall in stagnation, no intensive growth has been achieved since 1993;
some temporary expectations about removing the economic sanctions on Iraq may
have a strong effect on ASE.

GARCH-M (1, 1) EGARCH-M (1, 1) TARCH-M (1, 1)

 0.197915 (3.117431*) 0.196468 (3.106497*) 0.263572 (4.057484*)

0 0.00000414 (4.611661*)
1.494074 (
14.61822*) 0.00000413 (4.644982*)
1 0.253329 (7.302486*) 0.428976 (18.91895*) 0.296945 (6.010262*)
B1 0.670827 (15.84923*) 0.885029 (95.24230*) 0.673620 (16.62133*)
1 þ B 1 0.924156 1.314005 0.970565
 – 0.047821 (3.925557*)
0.098207
(1.554708**)
SBIC
7.393548
7.395502
7.393890
Ljung-Box Q test
for 20 lags Insignificant Insignificant Insignificant
Breusch–Godfry 0.027209 2.591410 0.018589
LM test P-value ¼ 0.868981 P-value ¼ 0.273705 P-value ¼ 0.891551 Table VII.
Number of Estimates of GARCH
observations 2346 2346 2346 (1, 1), EGARCH (1, 1)
and TARCH (1, 1) in
Notes: *Significant at 5 per cent level; **significant at 1 per cent level mean for ASE
MF 6. Conclusion
33,7 The paper has empirically examined the stock return behavior in ASE, market
efficiency, the time-varying risk–return relationship, the persistence of the stock
volatility and the leverage effect for the holding period 1990-2000.
The ASE shows negative skeweness, excess kurtosis, and deviation from normality.
The ASE volatility tends to change over-time, and is serially correlated. In addition, the
ASE returns show a significant serial correlation, implying stock market inefficiency.
498 The risk–return parameter is positive and significant, which is consistent with the
portfolio theory. The EGARCH model shows asymmetric effect in that good news has a
higher impact on stock price than that of bad news.
The market inefficiency may exist as a result of a lake of information resource that
investors are trying to find. To improve capital market efficiency, the government
should emphasis a policy of timely disclosure and make incentives for business to
invest in the financial services sector.
Since Iraqi market absorbed more than 40 per cent of Jordan exports before 1991
(The Gulf War), a temporally expectations about finishing economic sanctions on Iraq
may create the asymmetric effect on ASE. In most cases, bad news has a stronger effect
on volatility than that of good news. The opposite appears in the case of Jordan.

Note
1. The existence of the asymmetric effect does not necessarily implies the leverage effect
since the leverage effect only implies that bad news has a higher effect than good news
while the opposite does not hold.

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Further reading
Harvey, C.R. (1995), ‘‘Predictable risk and returns in emerging markets’’, Review of Financial
Studies, Vol. 8, pp. 773-816.

Corresponding author
Haitham Al-Zoubi can be contacted at: halzoubi@hu.edu.jo

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