The asymmetric impact of foreign equity investment on the financial growth of Nairobi Stock Exchange [NSE]-listed firms. A Non-Linear Autoregressive Distributed Lag (NARDL) approach

Abstract

The current study examines the non-linear effect of foreign equity investment on financial performance of firms recorded on the Nairobi Securities Exchange (NSE) by utilizing Non-Linear Autoregressive Distributed Lag (NARDL) model.  Theories that are theoretically grounded for the findings are Internalization Theory and Pecking Order Theory. The study used a sample of 40 NSE-listed firms in 12 sectors from 2019-2024, motivated by structural gaps in previous linear models which masked the differences in the direction of capital flows. Foreign equity investment was split into positive partial sums (surges of investment) and negative partial sums (capital flight), so that both short-run and long-run estimation were asymmetric; and investment was transformed into an absolute rather than a relative concept by subtracting the steady state level of foreign investment from the foreign investment level. The Pesaran Bounds F-test indicated that foreign equity investment and financial growth are cointegrated in the long run (F=5.842) and rejected the null hypothesis of no asymmetric relationship between the two. The results of long-run multiplier estimates showed that the negative impact of capital flight on financial growth is significantly high (β⁻=0.894) relative to the positive impact of inflow surge (β⁺=0.412), which indicates that the negative impact on financial growth with the capital flight is almost twice the positive impact with the inflow surge. For the short run, inflow surges had a negative and slightly significant coefficient, similar to the asset bubble hypothesis in an illiquid frontier market. This error correction term (ECT=−0.324) validated that approximately 32.4% of disequilibrium is corrected monthly. Structural asymmetry was supported further by the results of the Wald test for both horizons. The study suggests policies to improve the role of domestic investors as a counterweight to foreign portfolio volatility. Overall, the study concludes that the observed asymmetry between capital inflow surges and capital flight calls for differentiated, asymmetry-sensitive policy responses to foreign equity investment among NSE-listed firm.