Market Liquidity and Stock Size Premia in African Emerging Financial Markets: The Implications for Foreign Investment

Cairo and Alexandria Stock Exchange Occasional Paper Series

33 Pages Posted: 19 Nov 2008

See all articles by Bruce Allen Hearn

Bruce Allen Hearn

University of Southampton

Jenifer Piesse

University of Stellbosch; King's College London - Department of Management

Roger Strange

University of Sussex

Date Written: November 18, 2008


Equity markets are increasingly seen as important sources of investment funds in many emerging economies, both in Africa and elsewhere. Furthermore, many countries perceive the development of such markets as a means to facilitate both foreign equity portfolio investment and foreign direct investment (FDI) through the acquisition of shareholdings in domestic companies, and thus supplement the low levels of funding from domestic savings. But many emerging stock markets exhibit substantial risk premia, which both push up the cost of equity for listed domestic firms and deter potential foreign investors. This paper estimates the cost of equity in four major African markets: South Africa, Kenya, Egypt and Morocco. These collectively represent the largest and most developed equity markets in Africa and also act as hub markets in their respective regions. London is also included as a link between the emerging and developed financial market. The Fama and French (1993) three-factor model Capital Asset Pricing Model is augmented to take account of company size and illiquidity factors that feature in African financial markets. Results show that the premia associated with size are more prevalent than with liquidity although both are highly significant in both valuation and cost of equity estimates. The evidence suggests that the lowest cost of equity is achieved between the large international market of London and the smaller but well regulated Moroccan market, while Egypt has a higher cost of equity. The small developing market of Kenya has the second highest cost of equity, although the costs associated with the main market are less than ten percent of that faced by companies in the fledgling Alternative Investment Market. South Africa has the highest cost of equity although this reflects a proliferation of smaller firms in this market.

Keywords: Africa, Capital Asset Pricing Model, Liquidity, Emerging Financial Markets

JEL Classification: G12, G15, O16

Suggested Citation

Hearn, Bruce Allen and Piesse, Jenifer and Strange, Roger Nicholas, Market Liquidity and Stock Size Premia in African Emerging Financial Markets: The Implications for Foreign Investment (November 18, 2008). Cairo and Alexandria Stock Exchange Occasional Paper Series. Available at SSRN: or

Bruce Allen Hearn (Contact Author)

University of Southampton ( email )

University Rd.
Southampton SO17 1BJ, Hampshire SO17 1LP
United Kingdom

Jenifer Piesse

University of Stellbosch

Stellenbosch, Western Cape
South Africa

King's College London - Department of Management ( email )

Virginia Woolf Building
22 Kingsway
London, England WC2B 6NR
United Kingdom

Roger Nicholas Strange

University of Sussex ( email )

School of Business, Management and Economics
Mantell Building
Brighton, Sussex BN1 9RF
United Kingdom
(44)1273-873531 (Phone)

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