In modest form, the stock prices are explained by macroeconomic and microeconomic factors. However, the macroeconomic factors influence on individual stocks could be apprehended through the microeconomic characteristics. It can be captured in common factors such as capital formation, industry affiliation or association towards growth (Rosenberg & Marathe, 1976). Therefore, proposition of the factors selection in this study are deduced from the musharakah parameters like industry performance, management style, profitability ratios and capital growth in which represented by sector return, book value, cash flow, equity return, asset return, asset size and enterprise value indicators. These seven fundamental financial indicators are extracted from the financial statements and released of respective stock company under study. Figure 1-3 below summarised the research process for model development and examination using systematic and scientific methods.
Figure 1-3: Research Process for Stock Scoring Model Development
Shariah-compliant stocks listed on Bursa Securities Malaysia is the primary universe in this study. The stocks are selected from the latest list of Shariah-compliant securities issued by the SACSC and are categorised by their respective industry groups. In addition, compliant to the Shariah requirements are based on two tier criteria: business criteria and financial criteria (Securities Commission, 2014). Generally, the stocks selected must conform with the type of business that is
permissible by Shariah and must pass the financial threshold for cash and debt positions. Moreover, each stock must qualify for certain conditions such as; need to be actively traded on the stock exchange; need to have sufficient data of at least a fundamental financial indicator for the period of study; and must be assigned with recognised industrial classification standard in representing its respective industry sector.
This study conducts a quantitative research with time series analysis of the secondary data obtained from the financial information service provider. The time series analysis applied two-quarter observations throughout this study in establishing the !_#$%&' model that suggests the momentum of stock price returns is influenced by the rate of changes in financial indicators. As for the study period, an observation horizon begins the same as when Malaysia first introduced its Islamic equity capital market in June 1997 until the recent quarter where the list of Shariah-compliant securities issued by SACSC and financial information required are available as of September 2016. The historical financial data are gathered quarterly for each financial information required from the respective financial statements of a stock company. Financial indicators like total sector return, book value, operating cash flow, return on equity, return on assets, total assets and total enterprise value as well as data like stock prices, market capitalisation, book value ratio, trading volume, leverage ratio and earnings are gathered for computation of the composite score and the investment performance analysis respectively.
Each financial indicator of !_#$%&' model is assigned with a score to determine its momentum for next quarter and the composite score of the indicators are expected to denote the direction of stock prices. The momentum of stock price returns is measured by a rate of change of financial indicators between two quarters. Whereas, the composite score is computed for an average of all seven scores of the financial indicators which ranges from 0 to 100. As for the total sector returns, the aggregate stock prices in the same sector are tabulated over the period. Thereafter, the composites of equally weighted stocks are based to the reference divisor to form a total sector return. It behaves as a
benchmark of aggregate performance to the referred industry sector. Tabulation of the composite scores relative to the stock price returns creates the distribution of stock price returns. This process is repeated for each industry sector and pseudo stock portfolio.
The !_#$%&' model expects a higher composite score should result a better stock returns in the future. Whereas, future stock price returns are lesser given a lower composite score. Typically, a score more than 50 and reaching 100 suggests a positive stock returns in the following quarter. On the other hand, a score of 50 and reaching 0 would behave otherwise. Therefore, the new stock scoring model will fit well if the composite scores are statistically significant and highly correlated to distribution of stock price returns. In addition, the new stock scoring model envisages a higher correlation between composite score and stock price returns in any financial economic events and for every stock portfolio strategy. At the same time, a good model should result long-only and long- short strategies performing better than buy-and-hold portfolios in any given financial economic circumstances and common traits. Furthermore, for every indicator to be a good yardstick, it must be statistically significant in explaining the stock price returns. The significance tests are conducted for various portfolio strategies namely buy-and-hold, long-only and long-short portfolios with the stocks are rebalanced every quarter or every year in each industry sector as well as the entire stocks of this study. Therefore, the !_#$%&' model should have greater predictive capability if the fundamental financial indicators are statistically significant and highly correlated with the stock returns. Moreover, when !_#$%&' model applied to the various stock portfolio strategies, the model produces a positive stock portfolio returns. With that, investors should have a robust and intuitive investment analysis tool to make an informed investment decision during the stocks selection process in generating a profitable stock portfolio.