Relationship between exchange rate (usd/ inr) and stock market indices in India (sensex)

The forex market and the stock market are integral parts of the Indian economy and this paper seeks to clarify their association. The nature of their relationship is important to understand from the viewpoint of various stakeholders such as investors, governments, policymakers etc. The tests used to ascertain this relationship in this research paper are correlation and the Granger Causality test. The correlation test looks at the strength of association between the two variables whereas the Granger Causality test determines the existence of any causal relationships between the two. The data frequency is daily, and the study period is taken as 20 years, i.e. from 25th January 2000 to 25th January 2020. A significant negative correlation is found between the two variables implying that an increase in one causes a decrease in the other. The probability value of the Granger Causality test is found to be significant in both cases implying that both variables Granger Cause the other. With these tests, we can conclude that there exists a negative relationship between the two variables. This implies that forex returns and stock market indices are interlinked and an increase in one leads to a decrease in the other. The paper also seeks to provide policy recommendations based on the study.