Abstract
The role of macroeconomic variables cannot be ignored because it plays a very important role in shaping the economy of any country, irrespective of whether it is developing, underdeveloped or developed. The macroeconomic variables were disposable income (DI), government policies (GP), inflation rate (INF), interest rate (IR), exchange rate (ER) and stock price. Monthly data of 10 years were used, that is, from April 2006 to March 2016. Analyses of augmented Dickey–Fuller test, preliminary tests, stability tests, cointegration, vector error correction model (VECM) variance decomposition analysis (VDA) and impulse response have been applied to examine the association between the selected macroeconomic variable and stock returns. All the variables are stationary at 1st difference. The results showed that the residues are normally distributed and that there is no problem of multicollinearity, heteroskedasticity and serial correlation. The results of the cointegration showed a strong long-term relationship among DI, GP, the inflation rate, the exchange rate and the IR on the stock price in Bombay Stock Exchange of India. Results of vector error correction model revealed that in the short run, there was a negative and significant relationship between inflation rate and stock returns; therefore, it can be implied that an increase in the inflation rate eroded the prospect of positive performance among the Sensex but was not significant.
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