در ارتباط میان آزادی اقتصادی و بازده سهام در بازارهای در حال ظهور : شواهدی از بازارهای سهام شرق میانه و شمال آفریقا (MENA)

Although the relationship between economic freedom and equity returns has been investigated in the literature, the Middle East and North Africa (MENA) equity markets were usually excluded. The aim of this paper is to fill in this gap by examining the relationship between economic freedom index and equity market returns after accounting for a number of control variables. Evidence shows that changes in economic freedom have a positive impact on equity market returns, which are not explained by business-cycle control variables related to expected returns, and that legal structure and security of property rights have the most significant impact.

The financial liberalization of equity markets over the past three decades led to a large and growing body of literature on the impact of these reforms on both financial markets and the rest of the economy. Academic interest in these markets is mainly due to the fact that the equity market liberalization allowed, for the first time, foreign investors to invest in domestic equity markets and domestic investors to invest in foreign security markets directly (Bekaert et al., 2003). These reforms also created an opportunity for investors to reduce the risk of their portfolio by diversifying investments in developing stock markets. This opportunity is a result of stock markets of developing nations not being integrated with the world's developed capital markets (Darrat et al., 2000). Equity markets of developed nations, on the other hand, are highly integrated, in the sense that fluctuations in returns are highly correlated. This further means that a large proportion of the volatility in returns of a developed nation is explained by changes in returns in the rest of the developed nations (Bekaert and Harvey, 2002). In addition to creating investment opportunities, financial liberation of equity markets, through lifting restrictions on capital flows, also leads to a better allocation of scare resources. If there are no restrictions on capital flows and no transaction costs, then two assets with the same risk should be priced the same, regardless of where they originate (Darrat et al., 2000). Numerous restrictions on capital flows and high transaction costs segment the markets and prevent allocation of scarce resources where they are valued the most. For this reason, the role of financial markets in general and stock markets in particular plays an increasingly important role in today's globalized world. In this study, we explore the financial nature of the MENA markets, and some specific circumstances arising in these markets. We also consider a host of other issues, such as impact of economic freedom (EF) and the extent to which economic freedom could explain the behavior of equity market returns in some influential MENA markets. Thus, this paper contributes to the literature on emerging markets by investigating some of the features of the MENA equity markets, which were initially observed in the developed markets (Bekaert & Harvey, 2000, Bekaert & Harvey, 2003 and Achour et al., 1998). The main focus of this study is investigation of the impact of institutions on equity market returns in the MENA region. This paper is part of the new flow of studies on stock markets in emerging economies (e.g., Billmeier & Massa, March 2008, Bekaert et al., 2007, Kortas et al., 2005, Chang et al., 2004, Hagelin & Pramborg, 2004 and Bekaert & Harvey, 2003).2 Examining the performance of the MENA stock markets and the drivers behind their market returns presents some challenges for researchers mainly due to the lack of reliable data. In addition, these markets are in transition and hence not stable, yet they offer an opportunity to investors who are looking to reduce risk in their portfolios (Lagoarde-Segot & Lucey, 2007 and Lagoarde-Segot & Lucey, 2009). Some known models in finance literature may not capture the nature of these markets. General models for integrated and segmented markets do not capture the dynamics of a nation moving from one state to another (Barry & Rodriguez, 2004, Bekaert & Harvey, 2003 and Bekaert et al., 2003). However, the recent strong interest in emerging markets in general, and frontier markets—pre-emerging equity markets—in particular have provided momentum for future investigation in that direction and called for further study of current models to capture new conditions in these markets. Surprisingly, the growing body of research on economic freedom and financial markets primarily focuses on the developed markets; arguably the most organized and established markets in the world. In contrast, our study focuses on markets where economic freedom may be particularly weak, namely the MENA markets. In fact, country-specific risks and various barriers to international investment caused by the lack of information, discriminatory taxes, lack of rule of law, and restrictions on funds flows or simply fear of expropriation were always mentioned as some of the reasons that prevented foreign institutional investors from investing in MENA markets (Rajan & Friedman, 1997 and Erb et al., 1996). This led to the observed bias of investors toward domestic stocks in the developed countries. However, we think that the risk premiums in the emerging markets are important features of these markets; thus, the focus on MENA markets should help and maybe yield particularly powerful tests and useful independent evidence (Barry and Rodriguez, 2004). In line with the argument made by Bekaert and Harvey (2002), we believe that equity market integration—within the MENA region and the MENA with the rest of global market—is in progress. This is surely a gradual process towards a full integration, which will depend on the economic and political circumstances in each country or sub-region and it is most likely that all barriers will disappear (e.g., Soofi, 2008). Some empirical evidence of recent years reveals the growing importance of some trends, such as cross-border trade, to support international integration of the MENA economies (Romagnoli and Mengoni, 2009). For instance, the Gulf nations have apparently chosen currency union as a mechanism to protect their economies from excessive volatility. This relay race of market integration is important to decision makers, who should stoke concerns about it following the agreement to form a monetary union, scheduled to come into effect by 2010, and a common stock market after that.3 Yet, we note that although MENA equity returns are highly volatile, they are relatively less correlated with equity returns in the developed world, making it possible to construct low-risk portfolios (see e.g., Billmeier & Massa, March 2008 and Lagoarde-Segot & Lucey, 2007). Furthermore, the availability for international products has increased dramatically with the globalization of equity markets including the MENA markets. For instance, as of June 2006, the Morgan Stanley Emerging Market index includes some of the MENA countries that we studied in our paper, including Egypt, Jordan, Morocco, and Turkey.4 Also, in 1996, the Standard and Poor's started to track frontier markets, and in 2007 the S&P launched the first investable index called Select Frontier 150 index, which consists of the Select Frontier Index (30 of the largest companies from 11 countries) and the Extended Frontier Index (150 companies from 27 countries). Seven MENA countries are represented in the initial frontier index, i.e. Bahrain, Kuwait, Lebanon, Oman, Qatar, Tunisia, and United Arab Emirates. Motivated by the above considerations, this paper, which intends to tackle the impact of economic freedom on market returns, is organized into four sections. The first section looks at related studies that examined the dynamics of the emerging markets as they move from a segmented to an integrated state, and the role of institutions in this process. The second section highlights some of the stock market characteristics of the MENA region. The third section presents empirical evidence on the impact of institutions on stock market returns, and the last section concludes and offers some policy recommendations.

The purpose of this study was to investigate the impact of economic freedom on the stock market returns in eleven MENA stock markets from 2000 to 2007 and to determine which aspects of economic freedom components matter the most for stock market performance. Our fi ndings can be summarized as follows. First, we fi nd that changes in the overall level of economic freedom have a positive and statistically signi fi cant impact on equity returns. Second, the coef fi cients on economic freedom do not change much, either in magnitude or in signi fi cance, when we add a number of control variables. Whenwedisentangletheeconomicfreedomindexintoits fi veareas,we fi ndthatthelevelsofeconomic freedom of each area matter for stock market returns. However, only the changes in area 2, legal structure and security of property rights, are statistically signi fi cant. This result is consistent with Milton Friedman's comment on the importance of private property and the rule of law (see Gwartney and Lawson, 2003 ). Without a functioning legal system and entrenched property rights, economic freedom is undermined and the performance of stock markets is hindered. Fourth, in most of the regressions, the coef fi cient on the changes in area 2 does not change much, either in magnitude or in signi fi cance, when we add a number of control variables. In conclusion, the fi ndings in this study point to policy and practical implications that might be of interest to both academics and practitioners. From an academic perspective, this paper contributes to the areas of international diversi fi cation and global risk management (though this paper examines the time period prior to the current fi nancial crisis). Practitioners (and policymakers) can bene fi t from this research since it provides additional information and guidance on the management of international portfolios in the MENA region. One of the practical implications of the study is that investors can improve their stock portfolio performance by holding stocks in the economically freest economies in the MENA region. For investment fi rms, economic freedom can be added as an additional tool in addition to the optimal combination of risky and the riskless assets. By incorporating this dimension, another “ family ” of mutual funds, beyond just the optimal combination of risky assets and the riskless asset is being introduced. For instance, those optimal portfolios in those speci fi c countries — expected to show a high growth of their level of economic freedom — are tailored more to the needs of various clienteles. In fact, one can view this as though the fi nancial analyst is provided with an alternative scenario for consideration to the would-be investor. For assisting the analyst, the intuitive character of the method makes it versatile and easy to use by investment fi rm as an additional decision tool. Another implication of our study is that policy makers in the MENA region should take further steps to increase economic freedom in their nations with a strong focus on both the legal structure and security of property rights and size of government: expenditures, taxes, and enterprises category. A high level of economic freedom will provide countries with a higher degree of fi nancial integration with the outside capital markets. Currently, economic forces and demand for capital mobility have urged many nationstoward full fi nancial integrationto stimulate their domestic economies and supply capital for foreign direct investment (FDI).