Effect of Interest Rates Capping By the Central Bank of Kenya on the Banks Listed On the Nairobi Securities Exchange

A Research Report submitted to the Chandaria School of Business in Partial Fulfilment of the Requirement for the Degree of Masters in Business Administration (MBA)The purpose of this study was to investigate the effects of the recent capping of interest rates by the Central Bank of Kenya (CBK) on the shares of the banks listed in the Nairobi Securities Exchange (NSE) of Kenya. The study sought to answer the following questions: How important is the bank interest rate as a factor when investing in bank shares? How attractive are bank shares after the interest rate cap was introduced? To what extent was the capping of interest rates an event study? The research design for this study was observational survey and data was collected using checklists. Inferential statistics was used to study the correlations between the various variables. This study involved a small population of eleven banks listed on the NSE and a census was conducted. The validity and reliability tests were also discussed and once collected; data was analysed using IBM SPSS 22.0 statistical software for each research question as well as Microsoft Excel. A detailed analysis of the collected data was done and the findings presented by use of tables and figures generated from SPSS and Excel as the analysis tools. On the consideration of lending rates by investors when making the decision to invest in bank shares, the study found that there was a negative correlation between lending rates and stock prices in third and fourth quarter of 2015 and a positive correlation between lending rates and stock prices in third and fourth quarter of 2016. When the interest rate cap was effected, share prices for the banks dropped significantly and this means that interest rates are a factor that affects the decision to invest in bank shares. On the preference of bank shares after the capping of interest rates, the study found that the lending interest rates in 2015 did not significantly affect shares volume of almost all banks compared to 2016 where the Pearson correlation values were negative in the third and fourth quarter. The negative correlation in 2016 means that the lending interest rates negatively affect the volume of the bank shares. The trading volumes reduced after the interest rate cap was effected in September 2016 and most of the traded involved a reduction in the number of shares held by investors. This means that the capping of interest rates made the bank shares less attractive as investors were worried about the reduced profitability from these institutions. On the extent to which the capping of interest rates could be considered an event study, the study found that in the month of August 2016 which is thirty days before the announcement that the capping of interest rates had been made into law, there was normal movement in the share prices and share volumes traded for the listed banks. Between September 2016 and October 2016, share prices drastically reduced for the listed banks and the volumes traded reduced as well. A comparison of share prices for the listed banks in the fourth quarter of 2015 and the fourth quarter of2016 shows that in 2016, most shares shed 10 shillings with some banks shedding almost half the prices in 2015. This goes to show that the capping of interest rates can be considered an eventstudy in the financial sector. This study recommends that banks can look more into lending to the government and capitalize on non funded income streams like foreign exchange spreads. Because bank stocks may not continue giving higher returns with the capping of rates, the study recommends that investors should look into into other investment areas like Treasury bills and bonds as well as other sectors like real estate. The study also recommends that when conducting an event study, it is important to be aware of the fact that other non event information or activity might occur at the same time as the event under study which could lead to inaccurate findings on the event. It is also important for anyone undertaking an event study to know that sometimes information can be reflected in the share prices before th actual event date. This study concludes that government regulations on the financial sector do have an effect on the value that investors place on listed companies as evidenced by the market reactions on the capping of interest rates. Most investors are looking at investing their money in alternative investments after most of the listed banks posted a decline in their annual profits for the year 2016 attributed to the new regulations. Extensive consultations with all stakeholders should be done when coming up with regulations that have such powerful effects in the financial sector