Influence of Financial Gearing on Volatility of Stock Returns at the NSE in Kenya

Abstract

This study sought to examine the effect of financial gearing on firm-specific volatility of stock returns. Efficient Market Hypothesis, Modern Portfolio Theory and Fama & French three-factor model informed the study. The research employed a quantitative approach with a correlational research design using secondary data. Firms forming the NSE 25 share index formed the target population (N = 25), with annual data for 10 years from 2010 to 2019, yielding 250 data points. Fixed effects dynamic panel data regression model was used to analyse data. The results indicated that Financial Gearing measured by DCR has a positive and significant relationship with idiosyncratic volatility of stock returns (DCR: β = 0.455505, p=0.0000). On the other hand, the result showed a negative and significant relationship between financial gearing, measured as AER, and volatility of stock returns (AER: β = - 0.025187, P = 0.0037);. the overall model significance r² was r² = 63.3907%. The study concludes that financial gearing (DCR) is a significant positive predictor of stock return volatility at the NSE, while AER is a significant negative predictor of stock return volatility. It is recommended that NSE-listed firms should decrease their capital expenditure, use more internal sources of finance and focus more on wealth maximization objectives to reduce the volatility of stock returns.