Purpose
The upsurge of globalization has made investors cautious toward investing decisions, and, resultantly, sophisticated techniques of forecasting and analyzing the stock markets have emerged. Particularly, this trend has gained momentum in emerging economies. One such trend is to overcome the investing risks associated with formation of rational bubbles. Bubbles are formed when asset prices inflate to a very high level temporarily, and they ultimately burst. Investors may take advantage of this short-lived phenomenon and gain high returns, but may also suffer as the entire investing value declines when the bubble bursts. The purpose of this paper is to identify rational bubbles in the emerging capital markets of South Asian region.
Design/methodology/approach
The monthly data have been obtained from June 1997 to February 2018 for Pakistan, Bombay, Dhaka and Colombo stock markets, and supremum-Augmented Dicky Fuller test developed by Phillips and Yu (2011) has been utilized to identify the rational bubbles.
Findings
The results revealed the presence of rational bubbles in South Asian equity markets. The current study is of significant nature for the facilitation of investors in future-making investing decisions concerning with the formation of rational bubbles.
Originality/value
Several studies have been conducted on stock markets of developed regions. Specific bubble episodes, which occurred previously, have helped the researchers and investors in gaining plenty of insights. A lot of studies have been conducted on the SAARC region as well. But they have used the conventional unit root test for bubble identification and not used as extensive data as, in this study, have been taken. This research is aimed to study equity prices of the four stock markets to establish the fact that if rational bubbles exist in the index, they are reflected in the returns or not.
On Rational Bubbles and Fat Tails