ZENITH International Journal of Multidisciplinary Research Vol.1 Issue 6, October 2011, ISSN 2231 5780 TESTING OF RELATIONSHIP BETWEEN STOCK RETURN AND TRADING VOLUME IN INDIA RAVI KANT* *Doctoral Student, Department of Commerce, Kurukshetra University, Kurukshetra-136119, Haryana, India. ABSTRACT The linkage between stock prices and trading volume has been subjected to extensive research worldwide. The issue is also gaining importance to India especially in post liberalisation period. In this context this article attempts to empirically examine the relationship between stock returns and trading volume in India using monthly data time series over a nine year period from January 2002 to December 2010 for three hundred forty seven Indian stocks. The study employed the three steps in the first step descriptive study, in the second step augmented dickey-fuller unit root test for checking stationery and in the third step granger causality tests for testing the causality between stock return and trading volume.Granger causality test find that there is high degree causality between stock return and trading volume in Indian stock market because out of three hundred forty seven stocks, 66% stocks indicate that return cause volume, 3.3% stocks indicate that volume cause return, 3.7% stocks indicate bi-directional causation and the remaining27% shows no causation at all. KEYWORDS: Empirically,Granger Causality Test, Stock Return, Trading Volume, Time Series. ___________________________________________________________________________ INTRODUCTION There are many studies conducted on the relationship between trading volume and stock return. Such studies can provide insight into the structure of the financial market. These studies have been carried out on the stock market of countries other than India on the relationship between trading volume and stock return relationship. In these studies, a positive relationship between trading volume and stock return has been documented. This positive relationship has partially been attributed to the asymmetric relationship between these two variables. It is generally believed that the relationship between stock return and trading volume can provide an insight into the structure of capital market. The main objectives of study to ascertain the relationship between the trading volume and stock return changes in the Indian Stock Exchanges. Second the correlation between return changes and trading volume as well as magnitude of return changes and trading volume. The role of information on pricing of stock is an issue heavily discussed in the areas of finance, economics, and accounting. Generally it is known that pricing react to the arrival of new information. Investors in the stock markets frequently revise their expected prices of stocks depending on the flow of information. Possible disagreement to informational events can also lead to increased trading. Trading volumes can increase even if investors interpret the information identically but they have divergent prior expectations. Yet it is not clear what is the www.zenithresearch.org.in information reflected by volume data. The effects of the institutional and regulatory design of the market-spot and futures—on trading volume are also not well understood. This study 371 ZENITH International Journal of Multidisciplinary Research Vol.1 Issue 6, October 2011, ISSN 2231 5780 analyses the impact of stock market liberalization on emerging return volatility. A liberalization period is constructed to capture all identified market openings for each market. The stock market is a really nice place to invest your hard-earned money. Provided you know all the ropes. The Stock Market is no place for the tender-hearted and the weak- kneed. The Stock Market is a Great Leveller, in that it lifts you up one day and dumps you on the mat, the very next day. This is true in the case of the Indian Stock Market, the undisputed leader of the Asian pack. Here the foreign institutions hold all the trump cards. The domestic institutions and the mutual funds do play important roles but they are in no position to change the trend of the market on a given day. The current study contributes to the existing literature in volume changes and returns changes relationship by using traded quantity and calculated return from monthly adjusted closing prices in the Indian industries. The causal relationship is investigated between volume and return volatility by using granger causality test. OBJECTIVES OF STUDY This study is undertaken with the following objectives: 1 To study the correlation between return changes and trading volume as well as magnitude of return changes and trading volume. 2 To study that can trading act as a barometer for the Indian economy. 3 To test the causality relationship between the trading volume and stock return through granger causality test. THE NEED OF THE STUDY There exists a considerable amount of evidence both ‗for‘ and ‗against various level of efficiency for developed capital market. However, the capital market of the developing world such as that of India has been less subjected to efficiency research. Also these studies have employed relatively short time period. Therefore, further investigations on individual stock return data and over longer periods would provide more conclusive evidence. The knowledge of this relationship between trading volume and stock return in stock market can prove useful for investors. By properly timing their buy and sell decisions, they can enhance their adjusted profit, altering the time of routinely scheduled transaction in the light of trading volume changes can enhancing one‘s return on investment. The proposed study provides a useful insight into the behaviour of trading volume and return changes in the Indian capital market. It may help the professional and institutional investor to better meet the expectations of their client at large. REVIEW OF LITERATURE During the last decades a number of interesting studies have sought to explain the empirical relationship between trading volume and stock returns. We argue that the increase in trading volume and return volatility may be attributed to index arbitrage transactions as derivative markets provide more routes for index arbitrageurs to trade. Volume and Seemingly Emotional Stock Market Behaviour that various information www.zenithresearch.org.in types and rational learning methods have shown that heterogeneous belief changes in a 372 ZENITH International Journal of Multidisciplinary Research Vol.1 Issue 6, October 2011, ISSN 2231 5780 rational expectation model can explain many empirical findings in stock markets, such as momentum, contrarians, and technical trading. The methods have also shown that momentum and price movements can coexistin an asset market with only rational agents. The purpose of this paper is to provide a rational economic theory to explain these phenomena. Results of a dynamic programming model with heterogeneous beliefs show that the dynamic interactions between information diffusion and belief changes create continuation and reversals. The duration and magnitude of momentum and price movements are associated with trading volume. Therefore, rational investors should incorporate price andvolume information in their trading decisions. Lam, Li and Wong (1990) made a study to measure Price changes and trading volume relationship in the Hong Kong stock market that Studies on the relationship between price changes and trading volume can provide insight into the structure of the financial market. In this paper, we will study the above topic and concentrate on the stock market of Hong Kong. The correlation between price changes and trading volume as well as that between the magnitude of price changes and trading volume will be examined. We will also check the asymmetry of the price changes and volume relationship. Moreover, we will investigate the relationship between the variance of return and trading volume. Finally, the Granger causality test of price changes and volume will be performed. Mittal (1995) has documented in his article, new finding on price changes and trading volume relationship in the Indian stock market that a positive relationship may be observed between stock price changes and trading volume, Lagged relationship between these two variables my also be possible. The study is based on two daily prices indices published by BSE, BSE sensitive index, and BSE national index, which are assumed to be market informer. It is evident that stock price changes and trading volume are not significantly correlated. Henry (1999) analysed in his research paper Stock Market Liberalization, Economic Reform, and Emerging Market Equity Prices A stock market liberalization is a decision by a country‘s government to allow foreigners to purchase shares in that country‘s stock market. This result is consistent with the prediction of standard international asset pricing models that stock market liberalization may reduce the liberalizing country‘scost of equity capital by allowing for risk sharing between domestic and foreign agents. Bhanupant (2001) examined in this study,Testing Dynamic Relationship between Returns and Trading Volume on the National Stock Exchange that the dynamic relationship between stock index returns andtrading volume using the linear and non-linear Granger non- causality hypothesis test onthe National Stock Exchange (NSE) data. Widely used linear Granger non-causality testis used to investigate the linear relationship while the non-linear