Post on 13-Feb-2021
transcript
Bank-Specific and Macroeconomic Factors Related to Bank
Profitability and Stock Return in Thailand
Junevio Antonio Silva Ximenes
A Thesis Submitted in Partial Fulfillment of the Requirements
For the Degree of Master of Business Administration
International College
University of the Thai Chamber of Commerce
2014
THESIS APROVAL
INTERNATIONAL COLLEGE
Master of Business Administration
Degree
ii
International Business
Major Field
Bank-Specific and Macroeconomic Factors Related to Bank Profitability and
Stock Return
JUNEVIO ANTONIO SILVA XIMENES 2015
Name graduation year
Accepted by International College,University of the Thai Chamber of Commerce in
Partial Fulfillment of the Requirements of the Master’s Degree
(……………………………...) Dean of International College
(Dr. Jakarin Srimoon, Ph.D.)
(……………………………...) Chairperson
(Dr. Nattapan Buavaraporn, Ph.D.)
(……………………………...) Advisor and Committee
(Assistant Professor Dr. Li Li, Ph.D.)
(……………………………...) Committee
(Assistant Professor Dr. Wanrapee Banchuenvijit, Ph.D.)
(……………………………...) Committee
(Dr. Boonlert Jitmaneeroj, Ph.D.)
(……………………………...) External Committee
(Dr. Kittiphun Kongsawatkiet, Ph.D.)
Thesis Title : Bank Specific and Macroeconomic Factors Related to
Bank Profitability and Stock Return in Thailand
Name : Junevio Antonio Silva Ximenes
Degree : Master of Business Administration
Major Field : International Business
Thesis Advisor : Asst. Prof. Dr. Li Li
iii
ABSTRACT
The study investigated the relationship of bank specific and macroeconomic factors
on the bank profitability and stock return of Thai Commercial banks. The study used
multiple regression of quarterly data covered from period of 2004-2013. Bank
profitability measured by return on assets (ROA), return on equity (ROE), net interest
margin (NIM). Stock return defined by the quarterly adjusted closing prices of stock.
Both profitability and stock return used as dependent variables. Bank-specific and
macroeconomic variables were used as independent variables. Bank-specific variable
include Asset size (LNA), Capital adequacy (CA), Liquidity (LQD), Main source of
banks funding (DA), operational efficiency (CIR), Credit risk (LLP_TL).
Macroeconomic variables used Real Gross Domestic Product growth rate (GDPR),
inflation rate (INF) and real interest rate (RI). The dummy variables of Financial
Sector Master Plan also included in the study.
The empirical results showed that asset size (LNA), capital adequacy (CA), liquidity
(LQD), main source of banks funding (DA) have positive relationship on bank
profitability. Dummy variable of FSMP has positive relationship on stock return (SR).
While, operational efficiency (CIR), credit risks (LLP_TL), inflation rate and real
interest rate have negative relationship on bank profitability and stock return. Asset
quality (LLR_GR) and real GDP growth rate are insignificant to both bank
profitability and stock return.
iv
ACKNOWLEDGEMENTS
I praise God the almighty for granting me life and opportunity in finishing this study.
This thesis could be done because of the valuable help and guidance of several people and
institution. Therefore, I would like to give my sincere gratitude to them.
First of all, my grateful thanks to my advisor Asst. Prof. Dr. Li Li, who are willing to
help and guide me with critical comments, excellent advises and correction of the thesis
during the writing process.
Secondly, my very special thanks to the Ministry of Education of Timor-Leste
through Human Capital Development Fund for giving me an opportunity to continue my
study. It is an honor to be part of more than 100 Timorese to get a scholarship award to study
in Thailand.
Third, I would like to thank the committee member for the constructive comments
and correction during the proposal and final defense. Their valuable insights and comments
are highly appreciated during the course of this proposal and final defense.
Fourth, I would like to thank IC Program Coordinator, Dr. Nattapan Buavaraporn and
all IC staffs for their technical help in facilitating my study activity in UTCC.
Lastly and most of all, I am very grateful for my beloved parents, wife and my lovely
sweet daughter for their support during my difficult time in thesis writing process. They are
the source of my strength during this difficult moment. I also appreciate the support of friends
for their ideas and suggestions in writing process.
“For you I study,
For you I work,
For you I live,
For you I am ready even to give my life.”
-St. John Bosco
Junévio Antonio Silva Ximenes
Bangkok, Thailand
v
TABLE OF CONTENTS
Contents page no.
Abstract…………………………………………………………………………........i
Acknowledgements…………………………………………………………………..ii
Table of Contents………………………………………………………………........iii
List of Tables…………………………………………………………………………v
List of Charts……………………………………………………………………….vi
Chapter 1: Introduction
1.1 Introduction and Problem Statement……………………………………….1
1.2 Objectives of the Study……………………………………………………..2
1.3 Significance of the study……………………………………………………3
1.4 Research Question…………………………………………………………..3
1.5 Scope of the Study………………………………………………………….4
1.6 Expected Benefits…………………………………………………………..9
1.7 Operational Definition……………………………………………………...9
Chapter 2: Background
2.1 Overview of Thailand Banking Sector ……………………………………12
vi
Chapter 3: Review of Literature
3.1 Previous Studies…………………………………………………………...19
3.2 Conceptual Framework……………………………………………………31
3.3 Research Hypothesis………………………………………………………41
Chapter 4: Methodology
4.1 Methodology………………………………………………………………..42
4.2 Data…………………………………………………………………………44
Chapter 5: Results
5
5.1 Descriptive Statistics………………………………………………………..46
5.2 Correlation Analysis………………………………………………………...49
5.3 Regression Results…………………………………………………………..56
Chapter 6: Conclusion and Discussion
6
6.1 Conclusion…………………………………………………………………66
6.2 Discussion………………………………………………………………….70
6.3 Research Recommendation…………………………………………………71
6.4 Limitations and Further Research…………………………………………..72
References………………………………………………………………………….73
vii
List of Tables
Table Page
Table 1.1 Financial Business under BOT Supervision and Examination………….4
Table 2.1 Financial Institutions under BOT’s Supervision………………………..13
Table 2.2 Year on Year Percentage Change of Total Assets of
Thai Commercial Banks…………………………………………………16
Table 3.1 Summary of the Variables and the Expected Results…………………...37
Table 4.1 Name, Size and Abbreviations of Thai Commercial Banks
Listed in Stock Exchange of Thailand…………………………………..45
Table 5.1a Descriptive Statistics for the Variables (All Banks)……………………..46
Table 5.1b Descriptive Statistics for the Variables (Large Banks)…………………..48
Table 5.1c Descriptive Statistics for the Variables (Medium and small banks)……..49
Table 5.2a Correlation Analysis (All banks)…………………………………………50
Table 5.2b Correlation Analysis (Large banks)……………………………………...53
Table 5.2c Correlation Analysis (Medium and small banks)………………………..55
Table 5.3a Regression Result (All banks)……………………………………………56
Table 5.3b Regression Result (Large banks and medium and small banks)…………61
Table 6.1 Comparison of Result between large and medium and small banks…..69
viii
List of Charts
Charts Page
Chart 2.1 Gross Domestic Product (1988 prices)……………………………14
Chart 2.2 Performance of the Banking System 2007………………………..15
Chart 2.3 Profitability of the Banking System 2012…………………………17
CHAPTER 1
INTRODUCTION
This chapter provides a brief introduction of the factors that might affect
profitability and stock return of Thailand banking sector. The chapter divided into
seven parts. First, we describe statements of the problems. Second, explain objectives
of the study and significance of the research in third section. Fourth and fifth section
related to research questions and scope of the study respectively. Sixth and seven
sections are about expected benefits and operational definition.
1.1 Introduction and Problem Statement
Banking industry is important for an economic activity of a country. Banks
contribute to the allocation of funds from people who deposit their money and those
who need funds for their business activity and thus support the economic growth of a
country. However, banking sector performance also might suffer both from the
mistake decision of bank management and financial crisis that happened in a country.
Therefore, the assessment on bank profitability and stock return is important because
of its importance to financial stability and economic growth.
The financial crisis of 1997 has greatly affected the performance of Thailand
banking industry. For Example, in March 1997, the Bank of Thailand and the
Ministry of Finance notified 10 financed companies because of their asset quality
problem and insufficient liquidity. These companies need to increase their capital
(Charoenseang & Manakit, 2002, p. 602). Later, there are more finance companies
that were suspended from their operations and need to restructure their management.
On top of that, the intention of the Government of Thailand during the crisis was to
steer Thai commercial banks back to profitability (ADB Report 2011).
In 2004, the Financial Sector Master Plan (FSMP) phase one was initiated to
“rationalize the structure and roles of the existing financial institutions” (BOT
2
supervision report 2004). The goal is to increase efficiency which results in few
players in banking sector. In general, the players in banking industry will consist of
Thailand financial institutions (commercial bank and retail bank) and foreign financial
institutions (foreign bank branch and subsidiary). Both finance and credit foncier
companies can apply for the commercial bank status. Furthermore, foreign-owned
financial institutions such as existing full branches can apply for subsidiary status or
also can merge with finance companies and then apply to become a subsidiary. In
short, the efforts to improve efficiency through rationalization process give an
opportunity for existed financial institutions to restructure their organizations and
adapt to the changing financial landscape (BOT 2004 p. 35).
The changes in Thailand banking sector which started from 1997 financial
crisis, especially the initiative to implement Financial Sector Master Plan in 2004
become the concern of this study to know the extent to which bank internal factors
and external factors affect Thailand commercial bank profitability and stock return.
This paper studied the relationship of bank specific and macroeconomic factors on the
bank profitability and stock return in Thailand. The study on determinants of bank
profitability and stock return were sought with special focus on bank internal factors
and external factors. This study focused on the post-crisis period in Thailand and
examined the bank profitability and stock return from the period of 2004-2013. The
period used because from 2004-2008, the Financial Sector Master Plan phase one was
started which continued by the stage two of the implementation of Financial Sector
Master Plan from 2010-2014.
1.2 Objectives of the Study
Banking sector have a critical role in the economy activity of a country.
Internal decision of management board and the influence of business environment
could affect its performance. The Thailand banking industry is chosen as a subject of
study because it has experience a lot of transformation after the financial crisis in
1997. This is a good reason in understanding to what extent internal and external
factors of banking sector affect its profitability and stock return.
3
The ultimate objective of bank is to get profit in business and maximize
shareholders wealth. This is one of the reasons for the study to check how bank
internal factors and external factors related to bank profitability and stock return. This
study was conducted with the following objectives:
To investigate the relationship of bank-specific and macroeconomic factors
on bank profitability from 2004-2013, and;
To investigate the relationship of bank-specific and macroeconomic factors on
stock return from 2004-2013.
1.3 Significance of the Study
The study contributes to the existing literature of bank performance in
Thailand through the following ways. First, many study have done study on bank
profitability before and after the crisis. However, there is still little attention on the
impact of the implementation of Financial Sector Master Plan on bank profitability
and stock return. This study tries to use the newly updated data which cover from
2004-2013 related to bank profitability and stock return. Second, this study has the
same concern with Heberholz et al (2010) about the post crisis period in Thailand.
However, this study only focus on listed commercial bank and at the same time try to
use dummy FSMP variable to know to what extent it affects bank performance during
the period of 2004-2013. Overall, the study also similar to previous study to see the
effect of macroeconomic factors on stock returns. However, the new contribution to
the study is also to consider the impact of bank-specific factors to bank stock returns
in Thailand.
1.4 Research Questions
The research aimed to answer the following questions:
To what extent, the bank-specific factors such as asset size, capital adequacy,
asset quality, liquidity, main source of banks funding, operational efficiency
and credit risk have significant relationship on ROA, ROE, NIM and stock
return?
4
To what extent, macroeconomic factors such as gross domestic product
growth rate, inflation, real interest rate and dummy FSMP have significant
relationship on the ROA, ROE, NIM and stock return?
1.5 Scope of the Study
According to the recent data from Bank of Thailand, there are various
financial business currently operate under the supervision and examination of the
Bank of Thailand (as shown in Table 1.1).
Table 1.1
Financial Business under the Bank of Thailand Supervision and Examination
Under Bank of Thailand Supervision Under Examination of Bank of
Thailand as appointed by the
Ministry of Finance
1. Financial Institutions
1.1. Commercial Banks
Commercial Banks
Retail Banks
Subsidiaries
Foreign Bank Branches
1.2. Finance Companies
1.3. Credit Froncier Companies
1. Specialized Financial
Institutions
2. Thai Asset Management
Corporation
3. National Credit Bureau
2. Foreign Financial Institution
Representative Offices
3. Asset Management Companies
4. Non-Banks
Credit Card Companies
Personal Loan Companies
Source: The Bank of Thailand (BOT) website
5
However, the scope of the study focused on banking sector, especially for Thai
commercial banks listed in Stock Exchange of Thailand and cover the from the period
of 2004-2013. The lists of Thai commercial banks studied are as follows:
No Institution Name Year of Established
1 Siam Commercial Bank Public Company LTD 1904
2 Bangkok Bank Public Company LTD 1944
3 Bank of Ayudhya Public Company LTD 27 January 1945
4 Kasikornbank Public Company LTD 8 June 1945
5 TMB Bank Public Company LTD 1957
6 Krung Thai Bank Public Company LTD 14 March 1966
7 Tisco Bank Public Company LTD 1969
8 Kiatnakin Bank Public Company LTD 1971
9 CIMB Thai Bank Public Company LTD 1998
10 Thanachart Bank Public Company LTD 22 April 2002
11 Land and Houses Bank Public Company LTD 19 December 2005
Source: The Bank of Thailand (BOT) Website
So, the scope of the study focus on Thailand commercial banks listed in the
Stock Exchange of Thailand and excludes retail bank, foreign commercial banks
subsidiary and foreign banks branches, finance companies and credit froncier
companies.
The brief profile of Thailand Commercial banks listed in the Stock Exchange
is as follows:
(1.5.1) Siam Commercial Bank Public Company LTD (SCB)
The Siam Commercial Bank PCL started in 1904 and previously known as
“The Book Club”. The Bank was the first Thailand indigenous commercial bank and
6
the second largest commercial bank by their total assets, as of December 31, 2012.
The bank offer a full range of financial services, including corporate and personal
lending, retail and wholesale banking, foreign currency operations, international trade
financing, cash management, custodial services, credit and charge card services and
investment banking services.
(1.5.2) Bangkok Bank Public Company LTD (BBL)
Bangkok Bank PCL established in 1944 and is the largest commercial bank in
Thailand by its total assets. Bangkok Bank PCL is the market leader in corporate and
small medium enterprise banking and has the country largest customer base. The
Bangkok Bank PCL first traded at Stock Exchange of Thailand in 1975.
The bank's overseas branch network exists in 13 countries such as China,
Hong Kong, the USA, the UK, Japan, Taiwan, Singapore, Malaysia, Vietnam, the
Philippines, Indonesia, Laos and Myanmar.
Bangkok Bank offers full commercial banking services and arranging
syndicated loans, debt securities underwriting, trade finance, project finance, custodial
services, SME and merchant services and specialist industry advice.
(1.5.3) Bank of Ayudhya Public Company LTD (BAY)
Bank of Ayudhya PCL (or Krungsri Group) was established on 1945. It is the
fifth largest bank in Thailand based on their assets size. Bank of Ayudhya PCL has
been listed in Stock of Exchange in Thailand on 1977. Bank of Ayudhya PCL
provides a full range of banking service to both commercial and individual customers.
(1.5.4) Kasikornbank Public Company LTD (KBANK)
The Kasikornbank PCL, previously known as Thai Farmers Bank, was
established in 1945. The company has been listed on the Stock Exchange of Thailand
(SET) since 1976. Kasikornbank operates in 965 branches and sub-offices across the
7
country and ten overseas offices. The Kasikornbank PCL provides full financial
services to corporate, small and medium enterprise, and retail customer. The bank
also has branches in all parts of Thailand and overseas.
(1.5.5) TMB Bank Public Company LTD (TMB)
Thai Military Bank PCL started its operation in 1957 and is one of the largest
retail banks in Thailand. The initial objective is to provide financial services to
military personnel and their families. However, in 1973 the TMB bank PCL become
full commercial bank and expanded to serve corporate, small and medium enterprises
and retail customers. The Thai Military Bank PCL started its first trade in Stock
Exchange of Thailand in 1983.
(1.5.6) Krung Thai Bank Public Company LTD (KTB)
Krungthai bank PCL is a state bank and started its operation in 1966 through
the merger of two state owned banks (Kaset Bank and Monton Bank). In 1988, Krung
Thai Bank was the first bank expanded its branches to cover every province of
Thailand. Krung Thai Bank PCL provides commercial banking services to
individuals, organizations, institutions, and government and state agencies. Krung
Thai bank PCL started its first trade on the Stock Exchange of Thailand in 1989.
(1.5.7) Tisco Bank Public Company LTD (TISCO)
TISCO Bank PCL as part of TISCO Group was a finance company established
in 1969. The name TISCO is an abbreviation of “Thai Investment and Securities
Company Limited”. In 2004, Ministry of Finance approved TISCO status to
commercial bank. TISCO started its banking operation in 2005. TISCO bank PCL
provided banking services in areas such as retail and SME lending, corporate lending,
retail deposit, private banking, cash management and custodian services.
8
(1.5.8) Kiatnakin Bank Public Company LTD (KKP)
Kiatnakin Bank PCL is part of Kiatnakin-Phatra Financial Group which
focuses on commercial banking business. Kiatnakin Bank PCL was established in
1971 under the name of Kiatnakin Finance and Securities Company Limited.
Kiatnakin Bank PCL fully operated as a commercial bank in 2005. It provides full
range of financial and investment services professionally such as financial
consultation by highly competent personnel.
(1.5.9) CIMB Thai Bank Public Company LTD (CIMBT)
CIMB Thai Bank PCL, previously known as Bank Thai PCL, was established
in 1998 with the Financial Institutions Development Fund (FIDF) as the major
shareholder. In 2008, CIMB Bank Berhard became the largest shareholder in Bank
Thai PCL and changed the name to CIMB Thai Bank Public Company Limited. The
CIMB Thai Bank PCL is a member of CIMB Group, a leading financial institutions
based in Malaysia. CIMB Thai Bank PCL provides corporate and personal lending,
retail and wholesale banking, international trade financing and investment banking
services.
(1.5.10) Thanachart Bank Public Company LTD (TBANK)
Thanachart Bank Public Company Limited (TBANK) is part of Thanachart
Capital Public Company Limited (TCAP) and started its operation on 2002. The
Thanachart Bank PCL granted full commercial banking license in 2004 by the
Ministry of Finance. The bank is the Thailand’s sixth-largest bank by total assets. The
TBANK provide wide range of financial services to over 4 million customers include
Retail, Hire Purchase Corporate and SME banking, Insurance, Life Assurance,
Securities Brokerage and Fund Management.
9
(1.5.11) Land and Houses Bank Public Company LTD (LHBANK)
Land & Houses Bank Public Company Limited was established based on the
initiative of Land & Houses PCL and Quality Houses PCL. The Land and House
Bank PCL started its operation in 2005 through the licensed of Ministry of Finance.
The Land and House Bank PCL provides deposit services like other commercial
banks but cannot conduct transactions related to foreign currencies and derivatives,
except money exchange as an authorized money lender. The Bank also provides
lending to retail customers and small and medium enterprises.
1.6 Expected Benefits
This study is expected to provide an understanding on the factors affected
profitability and stock return of Thailand Commercial Bank listed in Stock Exchange
of Thailand. Particularly, this study provides an insight on how the internal factors in
bank-specific which is related to the internal decision of management board can affect
the performance of bank. Moreover, external factor (macroeconomic factor) which is
beyond bank control is also need to consider by seeking its influence on the bank
profitability and stock return.
1.7 Operational Definition
In this section, we divided the operational definition based on the variables
used in this study to four parts namely bank-specific factors, macroeconomic factors
and profitability factors and stock return.
1.7.1. Bank Specific-Factors
Asset Size is measured by natural logarithm of total assets. Asset size is total assets of
the banks are used to represent bank size.
10
Capital Adequacy is measured by total equity to total assets and expressed in
percentage. Capital adequacy refers to the bank ability to absorb unanticipated losses
related to the risks in banking sector.
Asset Quality is measured by loan loss reserve to gross loan and expressed in
percentage. Asset quality indicates the extent to which assets are devoted to loan.
Liquidity is measured by total loans to total customer deposit and expressed in
percentage. Liquidity defined as the capability of the bank to fulfill its obligations,
especially of depositors.
Main Source of banks funding is measured by deposit to total assets and expressed
in percentage. Deposit is source of bank funding and cheap source for a bank.
Operational efficiency is measured by operating expenses over total operating
income, expressed in percentage, which is also called cost-income ratio. It refers to
the operating costs (such as administrative costs, salaries, property plan and
equipment costs, excluding looses from bad and non-performing loans) over total
operating income. Cost-income ratio is to measure the impact of operational
efficiency on the profitability of the banks.
Credit Risk is measured by loan loss provision to total loans, expressed in
percentage. Credit risk refers to the possibility that loan payment may not be made in
time or loan principal may not be fully recovered because of default.
1.7.2. Macroeconomic Factors
Economic Activity is measured by quarterly real gross domestic product growth rate,
expressed in percentage and adjusted for inflation. Quarterly real GDP growth rate is
a measure of the rate of change that a nation GDP experiences from one quarter to
another.
Inflation Rate is measured by Consumer Price Index for all goods and services.
Inflation is the rate at which the general level of prices for goods and services is
increasing, and, subsequently, purchasing power is decreasing.
11
Real interest rate (RI) is measured by the nominal interest rate adjusted for inflation.
Previous study shows that interest rate has significant impact on bank profitability
(Alper & Anbar, 2011, Riaz & Mehar, 2013). In addition, bank profits increase in line
with the rising interest rate. Therefore, it is important to use interest rate in the study
because it directly impacts bank interest income and expenses, and the net result that
further affect profitability (Obamuyi, 2013).
Financial Sector Master Plan is measured by dummy variable by using phase I (0)
and phase II (1). Dummy variable for FSMP is used to know the impact of financial
structure master plan which might affect bank profitability and stock return during the
implementation of phase I (2004-2008) and II (2010-2014).
1.7.3. Profitability Factors
Return on Assets (ROA) is measured by net income divided by total assets and is
expressed in percentage. ROA is an indicator of how profitable a company is relative
to its total assets. ROA refers to the ability of bank management to increase the
earnings from bank assets.
Return on Equity (ROE) is measured by net income divided by total equity and
expressed in percentage. ROE refers to the amount of profit that the bank earned
compared to total amount of money that shareholder have invested.
Net interest Margin (NIM) is measured by the net interest and dividend income to
total earning assets and expressed as a percentage. NIM examines how successful a
firm's investment decisions are compared to its debt situations.
1.7.4 Stock Return
Stock Return is measured by the natural logarithm of the adjusted closing prices of
stock for the current period divided by the adjusted closing prices of stock of the
previous period. Stock return is the profit earned as a result of increase in stock price.
12
CHAPTER 2
BACKGROUND
This chapter has an objective to give an overview of the banking sector in
Thailand especially during the implementation of Financial Sector Master Plan phase
one from 2004-2008 and phase two from 2010-2014.
2.1 Overview of Thailand Banking Sector
Bank of Thailand (previously known as Thai National Banking Bureau) begun
its operations in 1942 and play a function as a central bank of Thailand. Thailand
commercial banks, retail banks, subsidiaries and foreign bank branches are under the
supervision of Bank of Thailand, include other financial institutions such as finance
companies, credit foncier companies, specialized financial institutions, asset
management companies, non-banks and Credit Bureau Company.
(2.1.1) Financial Sector Master Plan Phase one (2004-2008)
The 1997 financial crisis has given many experiences to Thailand to improve
the performance of financial institutions. As a result, there was the initiative to
implement Financial Sector Master Plan (FSMP) as a medium-term development plan
for financial institution under the supervision of Bank of Thailand.
In 2004, the phase one of Financial Sector Master Plan for 2004-2008 was
implemented with the objective to make the existed financial institutions become
more efficient in their structure and roles. The implementation of the plan is an
important event in Thailand post-crisis banking regulatory reform (Nakornthab, July
2007, p. 22). Financial groups have to follow “one presence policy”, which means
they can only have one form of deposit-taking institution. Some finance companies
need to merge to their parent companies or other finance companies in order to
13
* December 31, 2003
Before FSMP*
Thai Commercial Banks 13
Foreign Bank Branches 18
Finance Companies 18
Credit Foncier Companies 5
IBF’s attached to commercial Banks 24
Stand-alone IBFs 5
After FSMP
Thai Commercial Banks 15
Retail Banks 4
Foreign Bank Branches 18
Subsidiary 1
Credit Foncier Companies 3
Finance Companies 3
Total 44
Total 83
become commercial banks or give their license back to the Bank of Thailand. The
implementation of the FSMP resulted on the reduction of the number of financial
institutions from 83 in 2003 to 44 after the implementation of FSMP (See Table 2.1).
Table 2.1
Financial institutions under BOT’s Supervision
Source: Supervision report 2004, Bank of Thailand.
Under the Financial Sector Master Plan phase one, Bank of Thailand also
allowed the existing banks to offer broad range of financial services in hire purchase
and leasing, factoring, electronic money services, certain credit derivatives and plain-
vanilla commodity derivatives.
(2.1.2) Financial Sector Master Plan (FSMP) Phase Two (2010-2014)
The second phase of Financial Sector Master Plan (FSMP) announced in 2009
and has been implemented over the period of 2010-2014. The second phase of FSMP
has an objective to improve the efficiency of the financial institution system in order
to be more efficient and competitive in their intermediation role. Moreover, the
financial institutions also could be able to serve several groups of households and
businesses, and stay strong in uncertain business environment.
There are three pillars of the second phase of FSMP. First, reduce operating
costs to improve management efficiency of financial institutions so that they can
provide services with lower costs and able to compete with foreign competitors.
14
Second, promote competition and financial access in order to encourage financial
institutions to become larger, expand the scope of business, allow foreign branches
and subsidiaries to open additional offices, also consider new entry and by supporting
the role of specialized financial institutions. Third, strengthen the institutional
infrastructure as a requirement to improve efficiency of the financial institution
system. (BoT, 4 November 2009; Herberholz, Sawangngoenyuang, & Subhanij,
2010).
(2.1.3) Performance in the Thailand Banking System
The Bank of Thailand supervision report of 2007 mentioned that the year 2007
was a challenged year for the banking system in Thailand. It is because during the
period, the Thai banking system faced internal and external challenges such as the
domestic and global economic slowdown, political uncertainty, and the increase in oil
price. The overall economic stability remained strong but the growth rate in 2007 is
4.8% lower than the year 2006 which is 5.1% (See Chart 2.1 below).
Chart 2.1
Gross Domestic Product (1988 prices)
Source: Bank of Thailand Supervision Report 2007
15
However, during the time of these challenges, the commercial banks still
making profits (BOT supervision report 2007, p. 16). Net interest margin increased to
3.1% because of the decrease in deposit interest rate. Total operating profit increased
slightly up by 0.4% from 2006. Return on Assets (ROA) decreased from 0.8% in
2006 to 0.3% in 2007 (See Chart 2.2 below).
Chart 2.2
Performance of the Banking System 2007
Source: Bank of Thailand, Supervision Report 2007.
In 2011, the Thailand economy suffered from both internal and external
factors such as the flood in Thailand and the European sovereign debt crisis. The
flood caused the slowing growth in almost all categories of consumer loans, include
manufacturing sector. European crisis had limited impact on the Thailand banking
system because Thailand mostly relied on domestic funding (Bank Supervision
Report 2011, p. 7).
The classification of large, small and medium size of banks by its total assets
over the period of 2010-2012 showed that Bangkok Bank PCL, Krung Thai Bank
PCL, the Siam Commercial Bank PCL, and KasikornBank PCL are maintain its place
as the important player in banking industry based on the year on year percentage
change of its total assets (See Table 2.2).
16
Table 2.2
Year on Year Percentage Change of Total Assets of Thailand Commercial Banks
Source: www.setsmart.com, http://tcap.listedcompany.com/fin_tbank.html based on author calculations
Yearly/2012 Yearly/2011 Yearly/2010
(31/12/2012) (31/12/2011) (31/12/2010)
Name of the Banks Symbol '000 Baht %Change '000 Baht %Chan
ge '000 Baht %Change
Bangkok Bank Public Company Limited BBL 2,338,098,705.00 14.95 2,034,001,632.00 6.16 1,915,985,798.97 10.1
Krung Thai Bank Public Company Limited KTB 2,248,267,725.00 14.76 1,959,121,233.00 11.56 1,756,093,947.14 14.05 The Siam Commercial Bank Public
Company Limited SCB 2,145,315,513.00 21.34 1,767,986,978.00 20.6 1,465,949,267.73 15.6
KasikornBank Public Company Limited KBANK 1,921,320,806.00 19.74 1,604,566,971.00 10.31 1,454,540,205.20 13.06
Bank fo Ayudhya Public Company Limited BAY 986,466,735.00 11.24 886,822,905.00 7.01 828,727,055.08 8.95
Thanachart Bank Public Company Limited TBANK 951,007,485.00 8.31 878,053,323.00 82.14 482,063,220.00 -
TMB Bank Public Company Limited TMB 711,968,281.00 -0.89 718,330,168.00 21.87 589,425,725.64 8.82
Kiatnakin Bank Public Company Limited KKP 223,931,479.00 16.63 192,009,372.00 33.39 143,949,068.39 11.57
CIMB Thai Public Company Limited CIMBT 200,268,931.82 20.24 166,551,270.52 19.64 139,210,184.24 0.22
TISCO Bank Public Company Limited TISCO 23,166,248.00 29.43 17,898,499.00 -6.95 19,235,781.80 2.26 Land and Houses Bank Public Company
Limited LHBANK 12,941,276.00 3.64 12,486,561.00 113.67 5,843,867.10 -
http://www.setsmart.com/http://tcap.listedcompany.com/fin_tbank.html
17
In 2012, Thai banking system still strong with continuous credit growth,
satisfactory loan quality, high provisioning, and good profitability . The Bank of
Thailand placed a great emphasis on three key areas such as financial stability,
financial sector development and financial customer protection in order to make sure
that Thailand’s banking system remained to be strong in order to support economy
and was strong to the future challenges that might be happened in the country (BOT
supervision report 2012).
The banking system registered an overall operating profit of 287.9 billion
baht, increasing by 32.7 billion baht from 2011 or 12.8% growth. This is because of
an increase in net interest income and high loan growth. Net interest margin to
average assets (NIM) remained stable due to the result of higher cost of fund. Finally,
return on assets (ROA) increased to 1.2%.
Chart 2.3
Profitability of the Banking System in 2012
Source: Bank of Thailand, Supervision Report 2012.
18
In sum, all the changes happened in Thailand banking sector during the
implementation of Financial Sector Master Plan greatly affect the performance of
Thailand commercial banks. Some changes are under the management control in
order to enhance bank performance, thus toward profitability. Other changes are
beyond management control, which is related to external factors such as
macroeconomic condition of the country. This has become the motivation to assess to
what extent the internal and external factors related to the profitability of Thailand
banking sector and also the bank stock return.
19
CHAPTER 3
REVIEW OF LITERATURE
This chapter is divided into three parts. First, we will review the previous
studies on bank specific factors, macroeconomic factors, bank profitability and stock
return. Second, we will build a conceptual framework based on the review of the
literature. Third, we will provide the research hypothesis to test in this study.
3.1. Previous Studies
Many previous literatures evaluate the determinants of bank profitability of
banks based on group of countries and single country level. The result also different
based on the data and methodology that they use in their studies.
(3.1.1) Group of Country Studies on the Determinants of Bank Profitability
The studies based on the group of countries included in this literature are
Molyneux & Thornton (1992), Bonin, Hasan & Wachtel (2005), Albertazzi &
Gambacorta (2009), Karim, Sami & Hichem (2010), Olson & Zoubi (2011), Li
(2013), Perera et al (2013), Yilmaz (2013) and Almazari (2014).
Previous studies showed that capital is important to explain bank profitability
(Karim, Sami & Hichem, 2010; Yilmaz, 2013). Early study such as Molyneux &
Thornton (1992) examined the determinants of bank performances across eighteen
European countries between 1986 and 1989. They found that capital ratio is positively
related to bank profitability. Li (2013) in the study of accounting based and market
based performance of banks in eight Asian emerging markets showed that ROA is
significantly positively associated to the bank capital adequacy. NIM is significantly
positively affected by capital adequacy; whereas the Q ratio is significantly positively
20
related to capital adequacy. In addition, the recent study of Almazari (2014) on
Jordanian and Saudi bank’s performance also confirmed that there is a significant
positive correlation between bank profitability with total equity to asset ratio.
Previous literature showed that bank size is also important determinants for
bank profitability (Yilmaz, 2013). Bonin, Hasan & Watchel (2005) studied on bank’s
performance in eleven transition countries from 1996-2000. Their study showed that
bank size has significant coefficient which indicates that ROA increases with bank
size. Moreover, bank size has a positive impact on bank profitability (Karim, Sami &
Hichem, 2010). Another study of ten Middle East and North Africa (MENA)
countries during the period of 2000-2008 by Olson & Zoubi (2011) also confirmed
that bank size has positive impact on the bank’s accounting measures of profitability.
In addition, the banks of MENA showed high profitability and did not show much
contradiction between the cost and profit efficiency although they were smaller in
size. Perera et al (2013) found that bank size is positively associated with profitability.
It means that the higher competition still allows banks to earn higher profits.
However, Almazari (2014) found that there is negative relationship between bank size
and profitability.
The study on determinants of bank profitability based on group of countries
also showed that asset quality, liquidity, operating efficiency (cost income ratio), and
credit risk are used as bank-specific factors. Credit risk is important determinants of
bank profitability as measured by ROA and NIM (Yilmaz, 2013). Moreover, Li
(2010) applied five groups of performance indicators such as cost control, quality of
assets, efficiency and market-based measures to find the relationship between
ownership and bank performance. Bonin et al. (2005) investigated the effect of
foreign ownership on the performance of the banks in eleven transition countries over
period 1996-2000. They found that there is no significant effect of ownership on
profitability. In addition, privatization is not enough to improve bank efficiency.
Previous studies on group of countries found the positive relationship between
asset quality and profitability. Li (2013) found out that profitability (as measured by
ROE and Q ratio) is significantly and positively related to asset quality. On the other
21
hand, Molyneux and Thornton (1992) found that there is a weak inverse relationship
between liquidity ratio and profitability. Li (2013) showed that net interest margin
negatively affected by liquidity. Almazari (2014) found that there is a significant
positive correlation between bank profitability and liquidity risk. In addition, their
study also showed that bank profitability has a negative and significant correlation
with cost-income ratio.
Finally, macroeconomic variables also are important determinants for bank
profitability. Molyneux and Thornton (1992) found that nominal interest rates are
positively related to bank profitability. Then, Yilmaz (2013) mentioned that inflation
is important determinants for both ROA and NIM. Moreover, Albertazzi &
Gambacorta (2009) studied on the link between bank profitability and the business
cycle by using data for ten industrialized countries over the period of 1981-2003. The
study found that GDP growth rate exerts a positive effect on ROE. In addition, the
coefficient for the inflation rate is positive, but not significant (Albertazzi &
Gambacorta, 2009, p. 403). Furthermore, Karim et al. (2010) examined the effect of
factors that contribute to profitability of Islamic banks in Africa from 1999-2009. The
study concluded that economic growth and inflation have positive and significant
effect on bank profitability (Karim et al., 2010, pp. 52, 54)
(3.1.2) Single Country Studies on the Determinants of Bank Profitability
The study on the determinants of bank profitability based on individual
country also can be divided into internal and external factors. Internal determinants of
bank profitability can be described as those factors that are influenced by the bank’s
management decision and policy objectives. Internal determinants include bank-
specific variables. While, external determinants of bank profitability are influenced by
events outside the influence of banks (Dietrich & Wanzenried, 2009; Staikouras &
Wood, 2011). In addition, some previous study results showed that factors under the
control of managers (which is bank-specific factors) are the most significant
determinants of the bank profitability (Acaravci & Çalim, 2013; Ongore & Kusa,
2013).
22
In most studies, factors such as bank-size, capital adequacy, asset quality,
liquidity, main source of banks funding, operational efficiency and credit risk are used
as bank-specific factors. Mamatzakis and Remoundos (2003) concluded that variables
related to management decisions (size, capital adequacy, ownership, cost structure,
business risk) are found to assert a major impact on the profitability of Greek
commercial banks. Kosmidou, Tanna & Pasiouras (2005) studied on the determinants
of the United Kingdom owned commercial bank’s profit found that efficiency in
expense management and bank size also significant determinants for banks
profitability. Javaid et al. (2011) showed that total assets, equity to total assets,
deposit to total assets and loans to total assets are the major determinants of
profitability of banks in Pakistan.
The previous study showed the different result of the relationship between
bank size and profitability. Bilal, Saeed, Gull & Akram (2013) found that bank size
have significant impact on the profitability. Some literatures showed the positive
relationship between size and bank profitability (Sufian, 2009; Davydenko, 2010;
Sufian, 2011; Alper & Anbar, 2011; Muda et al., 2013; Tabari, Ahmadi & Toyeh,
2013). Other literatures showed the negative relationship between size and bank
profitability (Naceur, 2003 Ben Naceur & Goaied, 2008; Sufian & Chong, 2008;
Syafri, 2012). Ali, Akhtar & Ahmed (2011) study showed that profitability (as
measured by ROA) seems to have been positively affected by size. On the other hand,
profitability as measured by ROE seems to have negatively affected by size. While,
Gul, Irshad & Zaman (2011) results of correlation analysis showed that size has a
positive relationship with ROA and ROE. However, size has negative relationship
with NIM.
Moreover, Athanasoglou et al (2008) found that effect of bank size on
profitability is not important. Bukhari & Qudous (2012) study was to find out the
relationship between internal and external factors that affect profitability of a bank in
11 banks in Pakistan over the period of 2005-2009. The study found that size of the
bank has no significance on the profitability of a bank. The study of Zeitun (2012) on
Islamic and conventional banks in Gulf Cooperation Council (GCC) countries found
23
that the estimated effect of size provides evidence of economies of scale in Islamic
banking using the ROE, while it is not significant for conventional banks.
Previous study also used capital adequacy as internal determinants of bank
profitability. Naceur (2003) in the study of Tunisian banking industry found that high
net interest margin and profitability tend to be associated with banks that hold a
relatively high amount of capital. Kosmidou, Tanna & Pasiouras (2013) study showed
that capital strength of UK commercial banks has a positive and dominant influence
on their profitability. Aburime (2008) concluded that capital size is significant to bank
profitability. Athanasoglou et al (2008) found that capital is positively and highly
significant, reflecting the sound of financial condition of Greek banks. Other studies
found that capitalization have a positive impact on bank profitability (Sufian &
Chong, 2008; Ben Naceur & Goaied, 2008; Ben Naceur and Omran, 2008; Sufian,
2009; Davydenko, 2010; Syafri, 2012; Tabari, Ahmadi & Toyeh, 2013).
Dietrich & Wanzenried (2009) analyzed the profitability of 453 commercial
banks in Switzerland from 1999-2006. The study found that better capitalized bank
seem to be more profitable and loan volume growth affects bank profitability
positively. Sufian (2010) tried to examine the determinants of bank profitability of the
Republic of Korea during 1994-2008. The result of the study found that the banks of
the Republic of Korea with high capitalization level tend to have higher profitability
levels. Ali, Akhtar & Ahmed (2011) found that ROA negatively affected by capital
while ROE positively affected by capital. Bilal, Saeed, Gull & Akram (2013) found
that capital ratio has significant association with ROE but insignificant with ROA.
The studies on the determinants of bank profitability also consider asset
quality as a bank-specific factor. Kosmidou, Tanna & Pasiouras (2005) found that the
impact of asset quality (measured by loan loss reserve to gross loans) is positive and
significant on NIM. Alper & Anbar (2011) found that the ratios of loans/assets and
loans under follow up/ loans are found negative and significant impacts on ROA. This
indicates that credit portfolio volume and weak asset quality impact negatively ROA.
However, the study of Sufian & Kamarudin (2012) concluded that all bank specific
24
determinants influenced the profitability of the Bangladeshi banking sector except
asset quality.
Liquidity also used as a bank-specific factor in the study of the determinants
of bank profitability (Guru et al, 2002; Abduh et al, 2012). Some literatures showed
that liquidity has negative impact to profitability (Sufian, 2009; Davydenko, 2010;
Hasan et al, 2013). Other literatures found that bank liquidity is positively related to
profitability (Sufian, 2011). However, the study of Alper & Anbar (2011) showed that
liquidity has no important effect on bank profitability. In addition, Sufian (2009)
found that the impact of liquidity on bank profitability is varied among the types of
bank studied.
Deposits are the main source for the financing of the banks. Some previous
literatures showed the positive and significant relationship between deposit and
profitability (Javaid et al, 2011; Gul, Irshad & Zaman, 2011). Other literatures found
the negative relationship between deposits as a main source of bank funding and
profitability (Davydenko, 2010). However, the study of Aburime (2008) showed that
deposits do not significantly determine the profitability of banks in Nigeria. Alper &
Anbar (2011) concluded that deposit to total assets has no important effect on bank
profitability. Bilal et al (2013) found that deposit to total assets has favorable but
insignificant impact on both profitability measures ROA and ROE. Riaz & Mehar
(2013) found that total deposits to total assets have significant impact on ROE.
Other bank-specific factor used to determine bank profitability is cost-income
ratio. It is used to measure the impact of efficiency on bank profitability. Guru et al
(2002); Kosmidou et al (2005) and Sastrosuwito & Suzuki (2011) showed that
efficient expenses management is one of the most significant factors explaining bank
profitability. Athanasoglou et al (2008) found that operating expenses has a negative
effect on profitability. Moreover, Sufian & Chong (2008) concluded that overhead
expenses are negatively related to bank profitability.
Furthermore, Ali, Akhtar & Ahmed (2011) evaluated the determinants that
affect the profitability of both public and private commercial banks from 2006-2009
25
in Pakistan. The results showed that ROA seems to have been positively affected by
operating efficiency. But, ROE negatively affected by operating efficiency. In
addition, Alkhatib & Harsheh (2012) empirically examined the financial performance
of five Palestinian commercial banks listed on Palestinian securities exchange (PEX)
from 2005-2010. The study concluded that operational efficiency and asset
management found to be significant and affect ROA. Zeitun (2012) found that the
cost-to-income had a negative and significant impact on Islamic and conventional
banks performance. Many previous literatures showed that cost-to-income ratio has
negative effect on bank profitability (Syafri, 2012; Tabari, Ahmadi & Toyeh, 2013;
Hasan et al, 2013).
Credit risk is used as a bank-specific factor to determine bank profitability.
Theory suggests that increased exposure to credit risk is normally associated with
decrease firm profitability. Chantapong (2005) studied the performance of domestic
and foreign banks in Thailand during the period 1995-2000. The study found that both
domestic and foreign banks reduced their credit exposure during the crisis years and
have gradually improved their profitability during the post-crisis years. The result also
showed that the average profitability of foreign banks is higher than the average of
profitability in domestic banks. However, the gap of profitability is narrow after the
crisis period which suggests that there is a positive result of financial restructuring.
Previous study showed different result related to the risk and bank
profitability. Aburime (2008) found that the relationship between bank risk and
profitability is inconclusive in Nigeria. Moreover, Alkhatib & Harsheh (2012)
concluded that credit risk has insignificant effect on ROA. Previous literatures
showed that credit risk is negatively related to bank profitability (Athanasoglou et al
2008; Sufian & Chong, 2008; Davydenko, 2010; Sufian, 2010; Sufian, 2011; Ali,
Akhtar & Ahmed, 2011; Bilal, Saeed, Gull & Akram, 2013). Other studies found the
positive relationship between credit risk and profitability (Ben Naceur and Omran,
2008; Sufian, 2009; Bukhari & Qudous, 2012; Syafri, 2012)
As macroeconomic environment changes, factors that affect profitability of
banking sector might change as well. Previous study showed macroeconomic factors
26
as the profitability determinants (Abduh, Omar & Mesic, 2012). Guru, Staunton &
Balashanmugam (2002) study of banks in Malaysia found that inflation has positive
effect on bank performance. Mamatzakis and Remoundos (2003) reported that the
deregulation of the market and the process of European integration with the
introduction of the Euro have enhanced the competitiveness of the Greek banking
sector. Athanasoglou et al (2008) found that business cycle significantly affects bank
profit. Expected inflation positively and significantly affects profitability. In general,
the study provided evidence that the profitability of Greek banks is shaped by bank-
specific and macroeconomic factors.
The study of Tunisian banking industry by Naceur (2003) found that the
macroeconomic indicators such inflation and growth rates have no impact on bank’s
profitability. Stock market development has a positive effect on bank profitability.
This reflects the complementarities between bank and stock market growth.
Moreover, Kosmidou, Tanna & Pasiouras (2005) found that macroeconomic factors
as measured by GDP growth and inflation, concentration in the banking industry and
stock market development have a positive impact on bank performance. However, the
overall external factors relatively have small impact on bank performance.
Ongore and Kusa (2013) found that the effect of macroeconomic factors is
inconclusive. In addition, Sufian & Chong (2008) showed that economic growth and
the level of stock market capitalization have not explained the variations in the
profitability of the Philippines banks. Moreover, Ben Naceur and Omran (2008) study
on Middle East and North Africa (MENA) countries indicated that macroeconomic
and financial development indicators have no significant impact on bank
performance. Also, the study conducted by Sastrosuwito & Suzuki (2011) on
Indonesian banking system profitability after the crisis showed that the impact of
macroeconomic environment cannot be confirmed due to insignificant result. In
addition, they found the evidence of the structure-conduct-performance hypothesis,
indicated by a positive and significant effect on industrial concentration on
profitability. Alper & Anbar (2011) found that macroeconomic factors (real GDP
growth rate and inflation rate) have no important effect on bank profitability. Sufian
& Kamaruddin (2012) found that the global financial crisis has no significant impact
27
on the profitability of banks in Bangladesh. Finally, Bukhari & Qudous (2012) also
found that import-exports and CPI have no significance on the profitability of a bank.
Davydenko (2010) tried to relate macroeconomic indicators to overall
profitability of Ukrainian banks. The result concluded that inflation as well as foreign
ownership dummy have negative effect on profitability. Davydenko (2010) also found
out the positive effect of concentration rate and exchange rate depreciation. Sufian
(2010) study showed that the industry concentration of the national banking system
has a positive and significant effect on the banks. Moreover, the impact of both the
Asian financial crisis and recent global financial crisis are negative, while the banks
have been relatively more profitable during both the calm periods.
Some study found the positive relationship between macroeconomic factors
and bank profitability. For example, Dietrich & Wanzenried (2009) study showed that
GDP growth rate, as the most important factor, has a positive impact on bank
profitability. Sufian (2011) study showed the impact of inflation is positively related
to the Korean bank’s profitability. Ali, Akhtar & Ahmed (2011) concluded that GDP
is found to have positive impact on profitability as measured by both ROA and ROE
in their study on the bank profitability in both public and private commercial banks in
Pakistan. Alper & Anbar (2011) found that real interest rate is found to having
positive effect on profitability, as measured by ROE in Turkey. Gul et al (2011)
showed that inflation and GDP have a positive relationship with ROA and ROE. In
addition, inflation and stock market capitalization has a positive relationship with
NIM which means that bigger banks have lower NIM. Zeitun (2012) found that GDP
is positively correlated to bank’s profitability.
Bilal, Saeed, Gull & Akram (2013) used external variables such as inflation,
real GDP and industry productive growth in their study. From macroeconomic
variables, Industry Production Growth Rate (IPGR) is observed to have a strong
positive and significant influence on both profitability indicators ROA and ROE.
Higher growth rate of GDP seems to have a strong positive and significant impact on
performance measure ROA and GDP has positive impact on ROE. Inflation which
have insignificant but positive impact on ROE while has strong negative association
28
with ROA. This means that in high inflation there is decline in the profitability of
banks.
Other study found the negative relationship between macroeconomic factors
and bank profitability. For example, Sufian & Chong (2008) concluded that the rate of
inflation is negatively related to Philippines bank’s profitability level. Gul et al (2011)
showed that stock market capitalization have a negative relationship with ROA and
ROE (Gul, Irshad, & Zaman, 2011, p. 76). Correlation with NIM shows that loan and
GDP have a negative relationship with NIM. In addition, Sufian & Kamarudin (2012)
found that macroeconomic indicators such as GDP and market concentration have
negative and significant impact on bank performance. Moreover, inflation shows a
negative relationship with the profitability of Bangladesh banking sector. Zeitun
(2012) found that inflation is negatively correlated to bank’s profitability. Syafri
(2012) found that inflation rate have negative effect on profitability. But, economic
growth has no effect on bank profitability. Hasan et al (2013) found that consumer
price index and financial crisis are inversely affecting the bank profitability.
The use of interest rate as a macroeconomic factor in the study of banks in
Pakistan showed that that interest rate has significant impact on ROE. Moreover, the
interest rate also has a significant influence on the ROA and ROE (Alper & Anbar,
2011; Riaz & Mehar, 2013). In addition, the study of Acaravci & Çalim (2013) used
real gross domestic products, inflation rate, real exchange rate, and real interest for the
macroeconomic determinants. Macroeconomic factors such as real GDP and real
exchange rate have been effective on the profitability. The 2001 economic crisis has a
negative effect on Turkish banking sector.
(3.1.3) Previous Studies on Bank-Specific, Macroeconomic Factors and Stock
Return
Stock return is the benefits enjoyed by the investor over an investment made.
Return is the motivating factors that cause investor to invest money in stocks. Return
29
means the profit earned as a result of increase in stock prices (Jeyanthi & William,
2010, p. 86).
Previous studies showed that bank-specific and macroeconomic factors are
determinants of stock return. For example, Drobetz et al. (2007) and Kasman &
Kasman (2011) tried to find the relationship between bank-specific variables and
stock return. Drobetz et al. (2007) evaluated the importance of bank-specific
fundamental variables in explaining the cross-section of expected bank stock return.
In addition, Kasman & Kasman (2011) used some bank specific variables and
efficiency to find the relationship for stock performance.
Drobetz et al. (2007) study on European banks showed that there is positive
impact of the ratio of loans to total assets, the ratio of non-interest income to total
income, and the ratio of off-balance sheet items to total assets on subsequent bank
stock returns. However, the ratio of loan-loss-provision to net interest revenue and the
ratio of book value of equity to total assets load negatively on bank stock returns.
While, Kasman & Kasman (2011) found that measures of bank performance such as
technical efficiency, scale efficiency and productivity have positive and significant
effect on stock returns. In addition, the control variables which included in the
regression analysis showed that changes in equity over total assets and natural
logarithm of total assets are negatively and significantly related to the stock returns,
showing that larger banks and banks that have higher capital adequacy ratios have
lower returns.
In the previous literature, macroeconomic factors are widely used among
studies on the factors that affect stock returns. The study of Tan & Floros (2012) for
bank in China showed that there is positive relationship between bank profitability,
stock market development and inflation in China. In addition, Tangjitprom (2012)
classified macroeconomic variables that affect stock return into four groups. First,
variables related to general economic conditions. Second, variables related to interest
rate and monetary policy. Third, variables related to price level include consumer
price index, oil prices and gold price. Fourth, variables related to international
activities such as exchange rate and foreign direct investment. On top of that,
30
Tangjitprom (2012) concluded that the overall evidence show that there are
significant relationships between macroeconomic variables and stock returns.
The overall study of macroeconomic factors and stock return showed that
there is significant relationship among them. Cole et al (2008) examined the dynamic
relationship between the stock prices of the banking industry and future GDP growth
of 38 markets and the result concluded that there is positive and significant
relationship between bank stock returns and future GDP growth. Moreover, Ibrahim
& Agbaje (2013) investigated the long run relationship and dynamic interactions
between stock return and inflation in Nigeria. They found that there is the existence of
relationship between stock returns and inflation. Furthermore, Saeed & Akhter (2012)
examined the impact of macroeconomic factors on banking index in Karachi Stock
Exchange by using Arbitrage Pricing Theory (APT) context. The study concluded that
money supply, exchange rate, industrial production and short term interest rate
negatively affects the banking index while oil prices has positive impact on banking
index.
However, other study showed insignificant relationship between
macroeconomic factors and stock return. For example, Tu & Li (2013) studied the
impact of macroeconomic factors on banking industry stock return in China. The
study concluded that macroeconomic variables such as inflation, exchange rate,
interest rate and money supply have relationship with banking industry stock return.
Particularly, inflation rate has a positive but insignificant impact with the banking
industry. Moreover, in the recent study, Luthra & Mahajan (2014) examined the
relationship between macroeconomic factors such as inflation, GDP, exchange rate
and gold prices on Bombay Stock Exchange (BSE) Bankex Index from 2002-2013.
The regression result of their study showed that exchange rate, inflation, GDP growth
rate affect banking index positively and Gold prices have negative impact on BSE
Bankex. However, none of the macroeconomic variables have significant impact on
Bankex.
31
3.2. Conceptual Framework
After done the related previous studies, this section identified variables that
used in this study and the expected relationship among variables that found in the
review of literature.
(3.2.1) Bank Profitability and Stock Return Measures (Dependent Variable)
The previous study in the literature review showed that financial ratios are the
most popular used to measure bank profitability. They are return on assets (ROA),
return on equity (ROE) and Net Interest Margin/NIM ( for example; Naceur 2003;
Bonin et al 2005; Gul et al 2011; Acaravci & Çalim 2013; Riaz & Mehar 2013; Li
2013). In addition, some previous study also combined financial ratios with market
based performance measurements such as Tobin’s Q ratio (Alkhatib & Harsheh 2012;
Li 2013). However, this study focused on financial ratios (namely ROA, ROE and
NIM) to evaluate the impact of internal factors and external factors that affect bank
profitability during 2004-2012. In addition, return of the stock also used as a
dependent variable in this study (Saeed & Akhter, 2012).
Return on Assets (ROA) measured by net income divided by total assets and
is expressed in percentage. ROA indicates the ability of bank management to increase
the earnings from bank assets. ROA is chosen to be bank profitability measurement of
Thai commercial banks to know how efficient the using of its assets in generating
income, which in turn affects its profitability. Previous study on Thai bank
performance during 1997-2001 showed that ROA is affected by financial crisis
(Intarachote, 2002).
Return on Equity (ROE) is defined as net income divided by total equity and
is expressed in percentage. ROE refers to the amount of profit that the bank earned
compared to total amount of shareholder equity invested or found in balance sheet. It
is important to use this measurement because we want to know the effectiveness of
the management in using shareholders funds which in turn give profit to the
shareholders (Ongore & Kusa, 2013).
32
Net interest Margin (NIM) is a measure of the net interest and dividend
income to average total earning assets and expressed as a percentage. This variable is
important to use in this study because it shows the cost of bank intermediation
services and the efficiency of the bank which can affect bank performance. In short,
banks get profit from NIM through interest activities (Naceur 2003).
Stock Return is measured by the natural logarithm of the adjusted closing
prices of stock for the current period divided by the adjusted closing prices of stock of
the previous period. Stock return is the profit earned as a result of increase in stock
price (Jeyanthi & William, 2010).
(3.2.2) Bank Specific Determinants (Independent Variable)
Previous studies on bank specific determinants (Aburime, 2008; Acaravci &
Çalim, 2013; Alexiou & Sofoklis, 2009; Ali, Akhtar, & Ahmed, 2011; Alper &
Anbar, 2011; Athanasoglou, Brissimis, & Delis, 2008; Bilal et al., 2013; Ongore &
Kusa, 2013) showed that basic goal of bank’s management decision is to achieve
profit and thus maximize shareholder wealth. The variables for bank specific
determinants are asset size, capital adequacy, asset quality, liquidity, main source of
banks funding, operational efficiency and credit risk.
Asset Size (LNA) is measured by natural logarithm of total assets. It used to
measure the asset size of banks (Alper & Anbar 2011; Riaz, 2013). Staikouras &
Wood (2011) mentioned that empirical industrial organization literature has shown
that the distribution of firm sizes in many industries and countries can be
approximated by various skewed distribution of which most widely used is the
lognormal. The log of assets is used instead of assets in order to reduce scale effect
(Staikouras & Wood, 2011). This variable control for cost differences related to bank
size and for the greater ability of larger banks to diversify. Size is important to
measure if large, medium or small size of commercial banks is efficient and thus
33
affect bank performance. Larger banks tend to have higher degree of product and loan
diversification than small banks (Acaravci & Çalim, 2013).
Previous studies showed different result of the relationship between bank size
and profitability. Some literature concluded that there is positive relationship between
size and profitability (Aburime, 2008; Alper & Anbar, 2011; Gul et al., 2011; Karim
et al., 2010; Olson & Zoubi, 2011; Perera, Skully, & Chaudrey, 2013; Yılmaz, 2013).
Other studies concluded that there is negative relationship between bank size and
profitability (Ben Naceur & Goaied, 2008; Sufian & Chong, 2008; Syafri, 2012). The
study on stock return showed that asset size as measured by natural logarithm of total
assets is negatively and significantly related to the stock return (Kasman & Kasman,
2011).
Total equity to total assets (CA) used as a proxy for capital adequacy.
Capital adequacy indicates bank ability to absorb unanticipated losses related to the
risks in banking sector. It is expected that the higher the ratio, the lower the need for
external funding and the higher the profitability of the bank (Alper & Anbar 2011).
For central bank capital adequacy is useful to absorb losses. Therefore, it is important
to include in measurement of bank performance because capital adequacy is overall
indicator for capital strength of banks.
Previous studies such as Mamatzakis and Remoundos (2003), Li (2013),
Syafri (2012), Tabari, Ahmadi & Toyeh (2013), and Almazari (2014) showed that
there is positive effect of equity to total asset on bank profitability. Furthermore, the
capital adequacy is negatively and significantly related to the stock return (Kasman &
Kasman, 2011).
Loan loss reserves to gross loan (LLR_GR) used as a proxy for asset
quality. Asset quality indicates the extent to which assets are devoted to loan. It is
because loan is the major assets of commercial banks from where they generate
income. The quality loan portfolio determine bank profitability (Ongore & Kusa,
2013). Loan loss reserve is stated on balance sheet account which related to the
money that banks set aside to pay off losses on outstanding loans and serve as an
34
insurance to absorb potential losses caused by risky assets. Basel Capital Accord
requires that banks need to have regulatory capital (through combinations of equity,
loan loss reserves, subordinated debt, and other accepted instruments) at least 8% of
the value of its risk-weighted assets (such as loans and securities) and asset-equivalent
off-balance-sheet exposures. Previous studies showed the positive relations between
loan loss reserve to gross loans (Asset Quality) and bank profitability (Kosmidou et
al., 2005; Li, 2013). In addition, asset quality is negatively related to bank stock
returns (Drobetz et al., 2007).
Total Loans to total customer deposit (LQD) used as a measurement for
liquidity. Liquidity is defined as the capability of the bank to fulfill its obligations,
especially of depositors. Insufficient liquidity is one of the major reasons of bank
failures (Davydenko, 2010). Previous studies did not find similar result on liquidity.
Some study showed negative relationship between liquidity and bank profitability
(Davydenko, 2010; Molyneux & Thornton, 1992; Sufian, 2009). Others found a
positive relationship between liquidity and bank profitability (Kosmidou et al., 2005;
Sufian, 2011). In addition, there is positive impact of bank liquidity on stock return
(Drobetz et al., 2007).
Deposit to total assets (DA) will use as proxy for main source of banks
funding. Higher interest margin and profit also depends on the more deposits are
transformed into loans. Therefore, it is important to use because as a main source of
banks funding this ratio also affects the profitability of the banks. Previous studies
showed that deposits have positive impact on bank profitability (Gul et al., 2011;
Javaid, Anwar, Zaman, & Gafoor, 2011). In addition, there is strong positive
correlation between deposit and share price (Rawling & Shanmugam, 2013).
Cost-income ratio (CIR) is measured by the percentage of total operating
expenses over total operating income. Cost-income ratio will use as a proxy for
operational efficiency (Dietrich, 2009; Syafri, 2012; Almazari, 2014). The costs
include administrative costs, staff salaries and property costs, while the ratio excludes
losses due to bad and nonperforming loans. The importance of this ratio is to measure
35
the impact of efficiency on the profitability of the banks. Higher cost income ratio has
negative impact on the bank profitability.
Previous studies showed that the cost-income ratio has negative impact on
bank profitability (Almazari, 2014; Athanasoglou et al., 2008; Syafri, 2012; Zeitun,
2012). In addition, the empirical findings showed the positive impact of the cost-
income ratio on bank stock return (Drobetz et al., 2007).
Loan loss provision to total loans (LLP/TL) used as a measurement for
credit risk. The increase in credit risk is associated with the decrease in profitability.
Athanasoglou et al (2008) argued that the increased exposure to credit risk is normally
associated with decrease firm profitability. Loan loss provision is an expense recorded
on bank income statements which is reserved for defaulted loans or credits. Since
2006, Bank of Thailand set the regulation related to International Accounting
Standard No. 39 (IAS 39), that requires banks to increase their provision to 100% for
all loans classified as substandard and doubtful (Bank of Thailand, 2007, p.32). Bank
will enhance profitability by improving screening and monitoring of credit risk. The
previous study such as Athanasoglou et al (2008) found that credit risk is negatively
and significantly related to bank profitability. Sufian (2011) also has similar result as
Athanasoglou et al (2008). In addition, loan loss provision to net interest revenue is
negatively related to bank stock returns (Drobetz et al, 2007).
(3.2.3) Macroeconomic Determinants (Independent Variable)
Banks profitability is expected to be sensitive to macroeconomic variables
(Alper & Anbar, 2011). Macroeconomic determinants are variables that reflect the
economic and legal environment that affects the operation and performance of banks
(Athanasoglou, 2008). External variables such as economic activity, inflation, interest
rate and dummy for FSMP were used as independent variables of macroeconomic
factors.
36
Real GDP growth rate (GDPGR) measures the growth in the economic
activities after adjustment of inflation. The importance of using real GDP growth rate
in macroeconomic factors based on the reason that the GDP growth rate reflects the
economic condition which is expected to have impacts on the demand for bank loans
and thus generate direct impacts on profitability of banks (Kosmidou et al., 2005).
The literature review showed that GDP growth rate has positive impact on
bank profitability (Dietrich & Wanzenried, 2009; Gul et al., 2011; Kosmidou et al.,
2005). Moreover, there is also a positive and significant relationship between GDP
growth and stock return (Cole et al., 2008).
Inflation rate (INF) measures the percentage increase in Consumer Price
Index (CPI) for all goods and services (Riaz, 2013; Alper & Anbar, 2011). Inflation
rate both anticipated and unanticipated can affect the bank performance related to
proper adjustment of bank interest rate to increase revenue than cost (Alper & Anbar
2011).
Previous studies showed that there is relationship between inflation and bank
profitability (Athanasoglou et al., 2008; Kosmidou et al., 2005). Other study found the
negative relationship on bank profitability (Sufian & Chong, 2008). In addition, the
inflation also has effect on banking industry stock return (Tu & Li, 2013; Ibrahim &
Agbaje, 2013).
Real interest rate (RI) measures the nominal interest rate adjusted for
inflation. Previous study showed that interest rate has significant impact on bank
profitability (Alper & Anbar, 2011, Riaz & Mehar, 2013). In addition, bank profits
increase in line with the rising interest rate. Therefore, it is important to use interest
rate in the study because it directly impacts bank interest income and expenses, and
the net result that further affect profitability (Obamuyi, 2013). In addition, the study
concluded that macroeconomic variables such as inflation, exchange rate, interest rate
and money supply have relationship with banking industry stock return (Tu & Li,
2013).
37
Dummy of FSMP measures the impact of financial structure master plan
which might affect bank profitability and stock return during the implementation of
phase I (2004-2008) and II (2010-2014). In this study, Financial Sector Master Plan is
used as a dummy to find the significance relationship with bank profitability and
stock return from phase I (0) and phase II (1).
Table 3.1 below summarizes the variables and the expected results of the
conceptual framework described above.
TABLE 3.1
Notation Measure Variable Expected
impact on
Profitability
and Stock
Return
DEPENDENT VARIABLE
Bank Profitability
ROA Net Income/Total
Assets
Return on
Assets
NA
ROE Net Income/Total
Equity
Return on
Equity
NA
NIM
Net Interest and
Dividend Income
/Total Earning
Assets
Net Interest
Margin NA
38
SR Ln(Pt/Pt-1) Stock Return NA
INDEPENDENT VARIABLE
Bank Specific Factors
Ln A Ln[Totalassets] Asset Size +/-
CA Total Equity/Total
Assets
Capital
Adequacy
+/-
LLR_GR Loan Loss
Reserve/Gross
Loans
Asset Quality
+/-
LQD Total Loans/Total
customer deposit
Liquidity +/-
DA Deposit/Total
Assets
Main Source of
Banks Funding
+
CIR Total operating
expenses/Total
operating Income
Operational
efficiency
+/-
LLP/TL Loan Loss
Provision/Total
Loans
Credit Risk -
Macroeconomic Factors
GDPGR Real GDP Growth Gross Domestic +
39
Rate Product
INF Inflation Rate Inflation +/-
RI Real Interest Rate Interest Rate +/-
D Phase I (0) and
phase II (1)
Dummy for
FSMP
+/-
The relationship of variables (bank-specific and macroeconomic variables as
independent variable), and profitability and stock return as dependent variables are
showed in the conceptual framework below:
40
Conceptual Framework
Independent Variable Dependent Variable
- PROFITABILITY:
ROA
e.g. Gul et al. (2011)
ROE
e.g. Gul et al. (2011)
NIM
e.g. Gul et al. (2011)
- STOCK RETURN
e.g. Tu & Li (2013)
CA
e.g. Li (2013)
Mamatzakis and
Remoundos (2003)
LLR_GR
e.g. Kosmidou et al
(2005);
Li (2013)
LQD
e.g. Sufian (2009)
Sufian (2011)
DA
e.g. Gul et al. (2011); Riaz
& Mehar (2013)
CIR e.g. Athanasoglou et al
(2008)
LLP/TL
e.g. Athanasoglou et al
(2008)
GDPGR
e.g. Kosmidou et al (2005)
INF
e.g. Athanasoglou et al
(2008)
Sufian & Chong (2008)
LNA
e.g. Alper & Anbar (2011)
Sufian & Chong (2008)
RI
e.g. Alper & Anbar (2011)
Riaz & Mehar (2013)
Dummy FSMP
Ban
k-S
pec
ific
Var
iable
s M
acro
econom
ic V
aria
ble
s
41
4.3. Research Hypothesis
After done the review of literature and described the conceptual framework,
the study proposed the following hypothesis:
Hypothesis 1:
Bank-specific factors (i.e. asset size, capital adequacy, asset quality, liquidity, main
source of banks funding, operational efficiency and credit risk) and macroeconomic
factors (GDP growth rate and inflation, interest rate and dummy for FSMP) have
significant relationship on ROA.
Hypothesis 2:
Bank-specific factors (i.e. asset size, capital adequacy, asset quality, liquidity, main
source of banks funding, operational efficiency and credit risk) and macroeconomic
factors (GDP growth rate and inflation, interest rate and dummy for FSMP) have
significant relationship on ROE.
Hypothesis 3:
Bank-specific factors (i.e. asset size, capital adequacy, asset quality, liquidity, main
source of banks funding, op