**1. Introduction**

Some of the major developments in Turkey's economy during the past decades has been the liberalization of capital markets and implementation of floating exchange rate regime. These developments with the rapid growth of Turkey's economy has attracted international investors and thus increased Turkey's integration into the global economy. Turkey, as emerging market, became attractive to foreign investors for portfolio diversification but shocks in exchange rate markets create volatility in the stock market. It can react positively or negatively to

fluctuations in foreign exchange markets. Thus, exporters can benefit from the local currency depreciation due to higher export competitiveness, while importers will pay higher prices for imported goods, thus determining a company's cash flow and market value. Causality refers to exchange rates that vary from stock markets. On the other hand, if a country's exports depend mainly on foreign inputs, the resulting relationship between equity and exchange rates may be insignificant. Since Turkey is a net importer of goods and services, potentially, the depreciation of Turkish lira will cause the value of shares to fall.

There are two main theories suggesting a relation between exchange rates and stock prices. The first is the flow-oriented exchange rate models [1] that focus on the current account or trade balance and predicts that changes in exchange rates will affects the country's real economic variables and therefore stock prices by affecting international competition and trade balance. According to this approach, there is a positive relationship between the two and the causality from exchange rate to stock prices. Fluctuations in exchange rates makes the domestic companies more competitive in case of the depreciation of the national currency, thus increase their exports. Because, these fluctuations affect the costs and profits of many companies due to borrowing in foreign currencies to finance their operations. This affects the stock prices of firms [1].

Second approach is the stock-oriented approach which predicts that movements on stock prices affect exchange rates and thus a causality from stock prices to exchange rates via capital account [2]. As capital is part of the stock, it can influence the exchange rate through the demand of money. According to this, a rising stock prices will attract capital inflows to a country and this will lead to a decline in exchange rates by increasing demand for local currency [3].

It has become a generally accepted notion that these two variables are the way to go for emerging economies to enable economic growth and development. The role of exchange rate is much more important for small open economies in particular emerging markets. In this chapter we seek to shed some light on the analysis of the symmetric and asymmetric effects of exchanges rates on the stock prices in Turkey at industry level using a linear and nonlinear framework. This study is of great interest for a country that has import-oriented economy and completed its financial liberalization in the early 1990s. Because the empirical studies trying to prove the relationship between the exchange rates and the stock prices have mixed results regarding the two main views mentioned above.

**Figure 1** shows the dynamics of Turkey's three major stock market indices. The 2008 crisis is seen as the most important point of decline in the trend. Since Borsa Istanbul is generally a foreign-invested market, the performance of the Turkish stock markets is negatively affected by foreign investors via the global financial crises. During this period, the risk premium was raised for Turkey. In parallel, CDS values increased. A similar effect occurred after 2018. The Turkish economy has shown that it is not fragile and has exceeded stress tests. Thus, after 2008, the index displayed a strong rise. The depreciation of the exchange rates at the end of the period led to a downward trend in three major stock market indices.

relationship between stock prices and the exchange rates; linear multivariate ARDL model employed to show that changes in some additional variables such as interest rates and industrial production have symmetric or asymmetric effects on stock prices; as exchange rates has different impact on different sectors of the economy, multivariate ARDL models employed to analyze the relationship between them. Moreover, the relationship should not be based on the linear but also on nonlinear dimension. Thus finally, nonlinear bivariate and multivariate ARDL models applied to analyze the non-linear relationship between stock prices and the exchange rates in Turkey. This study is of great interest for a country that has import-oriented economy,

**Figure 2.**

**157**

**Figure 1.**

*Turkish lira to Euro&Dollar Currency Basket.*

*Stock market dynamics in Turkey (logs in TRY).*

*DOI: http://dx.doi.org/10.5772/intechopen.96068*

*The Impact of Exchange Rates on Stock Markets in Turkey: Evidence from Linear…*

has completed its financial liberalization in the early 1990s, and become an attractive destination for foreign investors. The rationale for assessing the role of

On the other hand, **Figure 2** shows the developments in the exchange rate market in Turkey. The exchange rates displayed a stable outlook in the first half of the period, but an upward trend in the second half of the period. Recently, the depreciation of the exchange rate accelerated. Thus, it seems to have a negative impact on stock market performance especially when the index gets cheaper in Turkish Lira terms, so the trend is expected to turn up.

Therefore to see whether the relationship between exchange rates and three major stock market indices is symmetric or asymmetric in Turkey, we employed four different methods: linear bivariate ARDL model is applied to investigate linear

*The Impact of Exchange Rates on Stock Markets in Turkey: Evidence from Linear… DOI: http://dx.doi.org/10.5772/intechopen.96068*

**Figure 1.**

fluctuations in foreign exchange markets. Thus, exporters can benefit from the local currency depreciation due to higher export competitiveness, while importers will pay higher prices for imported goods, thus determining a company's cash flow and market value. Causality refers to exchange rates that vary from stock markets. On the other hand, if a country's exports depend mainly on foreign inputs, the resulting relationship between equity and exchange rates may be insignificant. Since Turkey is a net importer of goods and services, potentially, the depreciation of Turkish lira

*Linear and Non-Linear Financial Econometrics - Theory and Practice*

There are two main theories suggesting a relation between exchange rates and stock prices. The first is the flow-oriented exchange rate models [1] that focus on the current account or trade balance and predicts that changes in exchange rates will affects the country's real economic variables and therefore stock prices by affecting international competition and trade balance. According to this approach, there is a positive relationship between the two and the causality from exchange rate to stock prices. Fluctuations in exchange rates makes the domestic companies more competitive in case of the depreciation of the national currency, thus increase their exports. Because, these fluctuations affect the costs and profits of many companies due to borrowing in foreign currencies to finance their operations. This

Second approach is the stock-oriented approach which predicts that movements

It has become a generally accepted notion that these two variables are the way to go for emerging economies to enable economic growth and development. The role of exchange rate is much more important for small open economies in particular emerging markets. In this chapter we seek to shed some light on the analysis of the symmetric and asymmetric effects of exchanges rates on the stock prices in Turkey at industry level using a linear and nonlinear framework. This study is of great interest for a country that has import-oriented economy and completed its financial liberalization in the early 1990s. Because the empirical studies trying to prove the relationship between the exchange rates and the stock prices have mixed results

**Figure 1** shows the dynamics of Turkey's three major stock market indices. The 2008 crisis is seen as the most important point of decline in the trend. Since Borsa Istanbul is generally a foreign-invested market, the performance of the Turkish stock markets is negatively affected by foreign investors via the global financial crises. During this period, the risk premium was raised for Turkey. In parallel, CDS values increased. A similar effect occurred after 2018. The Turkish economy has shown that it is not fragile and has exceeded stress tests. Thus, after 2008, the index displayed a strong rise. The depreciation of the exchange rates at the end of the

period led to a downward trend in three major stock market indices.

Turkish Lira terms, so the trend is expected to turn up.

**156**

On the other hand, **Figure 2** shows the developments in the exchange rate market in Turkey. The exchange rates displayed a stable outlook in the first half of the period, but an upward trend in the second half of the period. Recently, the depreciation of the exchange rate accelerated. Thus, it seems to have a negative impact on stock market performance especially when the index gets cheaper in

Therefore to see whether the relationship between exchange rates and three major stock market indices is symmetric or asymmetric in Turkey, we employed four different methods: linear bivariate ARDL model is applied to investigate linear

on stock prices affect exchange rates and thus a causality from stock prices to exchange rates via capital account [2]. As capital is part of the stock, it can influence the exchange rate through the demand of money. According to this, a rising stock prices will attract capital inflows to a country and this will lead to a decline in

exchange rates by increasing demand for local currency [3].

regarding the two main views mentioned above.

will cause the value of shares to fall.

affects the stock prices of firms [1].

*Stock market dynamics in Turkey (logs in TRY).*

**Figure 2.** *Turkish lira to Euro&Dollar Currency Basket.*

relationship between stock prices and the exchange rates; linear multivariate ARDL model employed to show that changes in some additional variables such as interest rates and industrial production have symmetric or asymmetric effects on stock prices; as exchange rates has different impact on different sectors of the economy, multivariate ARDL models employed to analyze the relationship between them. Moreover, the relationship should not be based on the linear but also on nonlinear dimension. Thus finally, nonlinear bivariate and multivariate ARDL models applied to analyze the non-linear relationship between stock prices and the exchange rates in Turkey.

This study is of great interest for a country that has import-oriented economy, has completed its financial liberalization in the early 1990s, and become an attractive destination for foreign investors. The rationale for assessing the role of

symmetric and asymmetric effects of exchanges rate on stock prices in Turkey is based on the perception, as expressed by [1, 2], that the stock prices can react positively or negatively to fluctuations in exchange rates. Determining the factors that cause movements in stock prices is very important and is of great interest to policy makers and investors. The role of exchange rate on stock prices is much more important for small open economies in particular emerging markets. There is no sufficient research evidence showing the links between foreign exchange rate and Turkish stock market. We believe that this study will fill the gap in the literature in this area.

relationship between exchange rates and stock market indices in Turkey, Japan and England. They use using the time varying causality test and find two-way causality between the exchange rate and stock prices for during the global crises period. However, some empirical studies find one-way causality between the exchange rate and stock prices [14]. Coskun et al. investigate the link between stock index and macroeconomic variables (USD exchange rate, exports and imports, industrial production index, and gold price using monthly data for Turkey. Using Granger causality, they find one-way causality from exchange rate to BIST, and using impulse response function their results suggest positive response of BIST to exchange rate shock [4]. Aydemir and Demirhan analyses the causality between exchange rates and stock prices for national 100, services, financials, industrials, and technology indices. The results suggest that there is positive bi-directional causal relationship from technology indices to exchange rate, but in terms of national 100, services, financials and industrials indices to exchange rate the paper does provide negative causality [15]. On the other hand, Kendirli and Çankaya (2016) analyze the causal relationship between the USD and Istanbul Stock Exchange National 30 Index from 2009:01 to 2014:12 monthly data and find no causal relationship between USD and

*The Impact of Exchange Rates on Stock Markets in Turkey: Evidence from Linear…*

*DOI: http://dx.doi.org/10.5772/intechopen.96068*

Fourthly, there are some studies that investigates short and long-run relationship between the two [16]. Recently, the relationship between the stock prices and exchange rates, specifically BIST 100 and 23 sectors indexes investigated using ARDL model. The results suggest that the long run relationship exist only between exchange rate and textile, wholesale and retail, and technology indices [17]. The short and long-term relations between exchange rate and financial sector index, industrial sector index, service sector index and technology sector index investigated in Turkey [18]. The results suggest that exchange rate has no long term relationship with stock prices and the sectors. However, in short term relationship, the results show that exchange rate has bidirectional causality with stock prices, technology and service sectors while a unidirectional causality with financial sector index. Akel and Gazel (2014) investigate the long-run and short-run equilibrium relationships between real effective industrial index in Turkey. Based on ARDL cointegration analysis, they find that there is a positive relationship between industrial index and Dollar Index and Euro/TL exchange rate, but there is no evidence on the relationship between real effective exchange rate and industrial index. Based on VECM model, they find that industrial index is positively related to the REER while it is negatively related to the Dollar Index and Euro/TL exchange

This study investigates symmetric and asymmetric effects of exchange rates on three major stock market indices in Turkey using four different models. Firstly, linear and nonlinear bivariate ARDL models are estimated where the exchange rates are the only determinant of stock prices. The linear models are used to capture the symmetric effects of exchange rate changes while the nonlinear models are applied to capture asymmetric effects of exchange rate changes on

Following Pesaran et al. [20] and Shin et al. [21] we apply the following the bivariate model to account for cointegration between exchanges rate and stock

*LnSPt* ¼ *α* þ *βLnEXt* þ *ε<sup>t</sup>* (1)

BIST-30 index returns [8].

rate [19].

**3. Methodology**

stock prices.

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prices in Turkey.

The rest of the chapter is organized as follows: Section 2 review the related literature; Section 3 describes data and methods applied; Section 4 presents empirical findings and discusses the implications of the analysis; and, finally, Section 5 concludes the paper and provides policy implications.
