PREDICTABILITY OF DOHA STOCK

MARKET
A BOX-JENKINS APPROACH
ZAKARIA S. G. HEGAZY
HELWAN UNIVERSITY

1
 Abstract
This paper analyzes the predictability of Doha stock market using
autoregressive integrated moving average (ARIMA) time series models
for forecasting Doha stock market prices. A framework for ARIMA
forecasting is drawn up by considering the Box Jenkins approach.
Practical issues in ARIMA time series forecasting are illustrated with
reference to the daily index of stock prices of all the listed securities on
the Doha stock exchange for the period of 1998 to 2001. The results of
ARIMA model provide evidence that the share price series do not follow
random walk model. The issues are important to security analysts,
investors and securities exchange regulatory bodies in their policy-
making decisions to improve the market condition. This study ought to
have a continuous research on this area to attain crucial conclusion about
the level of predictability of developing markets.

2
 Predictability of Doha Stock Market
A Box-Jenkins Approach
The question whether a stock market is predictable is relevant.
First, for the individual investor, who would like to know whether the
current high (low) level of stock prices, and low (high) dividend yields,
predict a low (high) future return. When low future returns are to be
anticipated, the investor should rationally stay out of the market. Second,
for the central banks or regulatory bodies, who can use a forecasting
equation to test whether the stock market is undervalued or not. When the
price level in the stock market moves away from what is considered
rational, a forecast of lower future returns would justify an intervention
to raise interest rates, and thus lower asset prices. Such an intervention
would stabilize prices around their fundamental value, thereby improving
the informational role of prices in the allocation of risks.
One question naturally arises. If stock markets are certainly that
predictable, why aren‟t professional arbitrageurs taking advantage of
them? One can easily argue that arbitrageurs are aware of the
predictability, but can not take advantage of it, due to agency problems
with their clients (Shleifer and Vishny 1997). The predictability seems to
hold only in the long run, i.e. for investment horizons from 12 months to
10 years, and under the assumptions of Shleifer and Vishny (1997),
arbitrageurs do not have such a long term horizon. To address this issue,
this study seeks to examine the effects of using the integrated auto-
regressive moving average (ARIMA) models, considered by Box and
Jenkins (1976) on the predictability of Doha Stock Market (DSM).
The DSM was established in accordance with law No 14 of 1996
and started operating in May 1997. As of March 22, 2000, Gulf
Cooperation Council (GCC) nationals are allowed to trade on the DSM,
which was earlier open only to Qataris. The GCC citizens are allowed to
hold up to 25% of Qatari shares in all firms listed on the DSM, with the
exception of banks and finance companies. Currently, non-Qataris are
allowed to own and trade shares of the recently issued shares of Qatar
Telecom (Q-TEL), but plans are underway to open up the market to
expatriates and, in due course, to other investors possibly through the
medium of mutual funds (Qatar Economic Review, 2001, p.68). Twenty
two companies are currently listed on the exchange which include stocks
in the banking, insurance, services and industry sectors. In order to
qualify for listing on the DSM, a company must have at least 100

3
shareholders, and a minimum share capital of QR 10 million, at least 50
per cent of which must be fully paid. Listed companies must publish
audited financial results annually, and report results six-monthly. Table 1
shows that the DSM is one of the smallest stock exchanges in the GCC in
terms of market capitalization and listed companies.
Table 1: GCC Stock Markets
Country 1999 2000 1999 2000
% %
Market Listed Market Listed change change
Cap ($bn) Companies Cap ($bn) Companies in index in index
Bahrain 7.18 41 6.62 36 1.1 -18.4
Saudi Arabia 61.15 72 67.86 74 43.6 11.3
Kuwait 19.6 85 18.81 90 -8.9 -6.9
Oman 5.88 140 3.46 210 9.5 -19.6
U.A.E 28.6 78 28.21 78 -17.9 -18.7
Qatar 5.5 21 5.16 22 -0.8 -8.0
Total 126.28 437 130.12 510 4.4 -10.0
Source: Qatar Economic Review (2001, p. 68)
There is a theoretical justification to study a small exchange , as
small exchanges raise important questions: Why should a country
develop a stock exchange? How can a small stock exchange survive? A
small stock exchange is in a better position and has greater incentive to
protect investors. Investors on the smaller exchanges will usually be
dealing in lesser sums of money and be unable to afford any losses and
therefore need a greater level of protection. This protection should
primarily manifest itself not in the size of funds, but rather in the
closeness of both the investors and operators to the market.
The simplest but the most useful class of nonlinear models is the
bilinear model. This model is linear in the states' and also in the 'errors'
separately but not in both (Seiler and Rom, 1997). The bilinear models
incorporate the class of linear models considered by, namely as special
cases. We assume that with such reliable model, market participants can
more effectively plan their transaction timing and their budget and
estimate their profits. Predicting the stock return behavior in Qatar
provides major policy implication for Qatar government, companies, and
investors. So, the basic research question needs to be answered: Is it
possible to build up a predictive model for Doha Stock market?
In answering this question, this paper examines the forecastability
of DSM market prices and the economic significance of those forecasts.
Such forecastability opens the hope that a trading rule could serve to earn
abnormal returns. The search for forecastability of stock returns is driven
by the hope of finding a money machine, and by the weakening of the

4
random walk idea brought by the work of Fama and French (1988),
Poterba and Summers (1988), Lo and MacKinlay (1988), and others.
The paper is divided into four sections. The methodology of the
paper is discussed in section two. Section three presents the empirical
results while the main conclusions of the paper are summarized in section
four.
I. METHODOLOGY
There are several forecasting techniques available to identify
patterns in time series data. However, regression, exponential smoothing,
and decomposition approaches assume that the values of the time series
being forecasted are statistically independent from one period to the next.
As such, they are not suitable when identifying a pattern in stock prices
series that are essentially autocorrelated. These procedures have been
employed in earlier attempts, but were completely inadequate because of
the violation of the serially independent assumption. Instead, the Box-
Jenkins methodology, which does consider the statistical dependence of
observations from one time period to the next, will be used. The Box-
Jenkins method of forecasting is different from other methods in that it
does not assume any particular pattern in the historical data of the series
to be forecast. Instead, it uses an iterative approach to identify the
underlying pattern. The model is believed to fit the series well if the
residuals between the forecasting model and the historical data points are
small, randomly distributed, and independent. If the specified model is
not satisfactory, the process is repeated by using another model designed
to improve upon the original one. The Box-Jenkins technique is
composed of both an autoregressive model and a moving average model.
[See, Box, Jenkins, and Reisel (1994)]. The autoregressive (AR) model
takes the form:
Yt    1Yt 1   2Yt 2  ...   pYt  p(1)
 At

where Yt is the time series, At represent normally distributed

random errors, and 1 , ...,  2 and  are the parameters of the model, with
the mean of the time series equal to
p
  1   i
t 1
An autoregressive model is simply a linear regression of the
current value of the series against one or more prior values of the series.
The value of p is called the order of the AR model. The regression
coefficients are estimated by using a nonlinear least squares method that

5
employs an iterative solution technique to calculate the parameters. After
establishing preliminary starting points, the procedure then
systematically improves upon them until an optimal solution is found.
The moving average model takes the form:
Yt  Y  At  1 At 1   2 At 2  ...(2)
  q At q

where Yt is the time series, Y is the mean of the series, At-i are
random shocks to the series, and  1 , ...,  q are the parameters of the
model. The value of q is called the order of the MA model.
That is, a moving average model is essentially a linear regression
of the current value of the series against the random shocks of one or
more prior values of the series. The random shocks at each point are
assumed to come from the same distribution, typically a normal
distribution, with constant location and scale. Combining the two models
yields the Box-Jenkins complete model that is shown as:
Yt    1Yt 1   2Yt 2  ...   pYt  p 
(3)
At   1 At 1   2 At 2  ...   q At q

where the terms in the equation have the same meaning as given
for the AR and MA model. As with modeling in general, however, only
necessary terms should be included in the model.
In order to apply Box-Jenkins methodology, there are four
separate stages, namely: model identification, model estimation,
diagnostic checking of the identified model, and construction of
confidence intervals around the forecasts. Before identifying the model,
the series must be stationary. To make the series stationary it is necessary
to take the first difference. Once the series is stationary, the model is
ready to be identified. This step is accomplished by comparing the
sample autocorrelation and partial-autocorrelation coefficients (SAC and
SPAC) of the data to the various pre-determined theoretical distributions.
Once a tentative model has been selected, the parameters for that model
must be estimated. After several iterative steps the residuals from the
final model are analyzed to determine if they are essentially white noise.
Certain number of lags are analyzed to test for white noise for both the
SAC and SPAC. Box-Ljung statistics are checked at each lag for
statistical significance at a level of 5%. The p-value is interpreted as the
probability that white noise would have generated autocorrelations as
large as or larger than those actually observed. Hence, a p-value of less
than .05 implies that there exists an identifiable pattern in the time series

6
being analyzed. Because sixteen lags or more are typically analyzed,
observing one or even two Box-Ljung lags with p-values less than .05 is
in line with statistical probabilities. Observing more than two, however,
is indicative of a non-random series.
If more than one model fit the data adequately, the general criteria
for model selection can be applied. Two of these criteria are commonly
used namely, the Akaike Information Criterion (AIC) and the Schwartz-
Bayesian Information Criterion (SBC). The best model is the one that has
the lowest AIC and SBC, [see Metwally, (2001)]. Once an adequate
model has been found, forecasts for one period or several periods into the
future can be made. Confidence intervals or bands are then constructed
around the forecasts. In general, the more predictable the time series, the
more narrow will be the confidence intervals. Conversely, a random walk
time series is associated with very large confidence bands.

II. Empirical Results

The empirical estimates are based on combined daily prices for
all stocks listed on the Doha Stock Exchange from January 1, 1998 to
October 18, 2001. Stocks are not traded on weekends and holidays. At
first glance this seems to violate the basic time series requirement that
observations be taken at regularly spaced intervals. The requirement,
however, is that the time intervals be spaced in terms of the basic process
of the series. Here the fundamental process is the trading of stock, so
prices at the end of each business day are perfectly proper.
Initially, we started by examining the stationarity of our time
series, generating a run sequence plot of the general index of stock prices
(GISP) of Qatari stock market. The 958 prices figures, y1, y2, …,y958;
form January 1, 1998 to October 10, 2001; are cited from Doha
securities exchange records and are plotted in Figure 1.
Figure 1 Original values of Daily GISP of Qatari Stock Market
160

150

140
Prices

130

120

110

100

90
1
50
99
148
197
246
295
344
393
442
491
540
589
638
687
736
785
834
883
932

DAYS

7
 We notice that the original values of such time series do not seem
to fluctuate around a constant mean, and hence it would seem that these
values are non-stationary. In order to correct for non-stationarity we use
the "differenced" version of the variable. Figure 2 shows that the first-
differences of the original GISP values fluctuate with constant variation
around a constant mean. It would seem that these first differences are
stationary. Then, we move to identify Box-Jenkins forecasting models by
examining the behavior of the SAC and SPAC for the values of
stationary time series. Since Figure 2 may suggest that the first-
differenced GPIX time series is stationary, we present the estimated SAC
and SPAC of such time series in Figures 3 and 4 and Table 2.

Figure 2: First Differences of Daily Prices of DSM

Jan. 1, 1998 to Oct. 18, 2001
4

2
Prices

-2

-4
97 193 289 385 481 577 673 769 865 961

Sequence number of days

8
 Stock Prices
.5

.4

.3
ACF
.2

.1
Confidence Limits
0.0
-.1 Coefficient
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16

Lag Number
Transforms: difference (1)

Figure 3:Sample Autocorrelation of the Differenced Series

Table 2 The SAC and SPAC for the first differences of daily GPIX

Lag SAC Box-Ljung Prob. SPAC

1 0.380 138.977 0.000 0.380
2 0.225 187.788 0.000 0.094
3 0.180 218.838 0.000 0.078
4 0.144 238.748 0.000 0.045
5 0.092 246.831 0.000 0.001
6 0.062 250.583 0.000 0.001
7 0.040 252.130 0.000 -0.005
8 0.070 256.830 0.000 0.049
9 0.047 258.947 0.000 0.000
10 0.062 262.678 0.000 0.036
11 0.051 265.201 0.000 0.007
12 0.066 269.386 0.000 0.032
13 0.081 275.835 0.000 0.040
14 0.069 280.506 0.000 0.012
15 0.083 287.208 0.000 0.039
16 0.051 289.698 0.000 -0.017
Bolds refer to lags that seem statistically different from zero

9
 Stock Prices
.5

.4

Partial ACF .3

.2

.1
Confidence Limits
0.0
-.1 Coefficient
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16

Lag Number
Transforms: difference (1)
Figure 4: Sample Partial Autocorrelations of the Differenced Series
Figures 3 and 4 and Table 2 illustrate different pattern of SAC
and SPAC. The SAC at lags 1, 2, 3, 4, 5, 8, 12, 13, 14 and 15 seems
statistically different from zero, that is the approximate 95% confidence
limits for ρk are –0.0633 and + 0.0633. But at all other lags, they are not
statistically different from zero (Gujarati, 1995, p.717). On the other side,
the SPAC at lags 1, 2, and 3 seems statistically different from zero,
although it seems to cut off fairly quickly after lag 1. Two results we can
reach from this analysis: (1) the time series values should be considered
stationary, (Bowerman and O‟Connell, 1993, p. 450), (2) an ARIMA (p,
1,q) is suitable for daily data on total stock prices index in Qatar.
Following Metwally (2001), we suggest the suitability of any of the
following ARIMA models: ARIMA (3,1,0), ARIMA (3,1,1), ARIMA
(3,1,2), ARIMA (1,1,0), ARIMA (1,1,1), ARIMA (1,1,2), ARIMA
(1,1,3), ARIMA (0,1,3), and ARIMA (0,1,1). All of ARIMA models
were estimated using the SPSS program. The AIC and SBC values of the
estimated models were then compared. The results are reported in Table
3, which illustrates that the smallest SBC and AIC values were for the
ARIMA (1,1,2) model, which is:
Z t  1 Z t 1  At  1 At 1   2 At 2
where Zt = yt – yt-1 (4)
The fitted model can be written as:
(1  B) Z t  0.787582 Z t 1  0.455432 At 1  0.086950 At 2
(11.839315) (5.990117) (1.8921144)
where, the figures in the parenthesis below the parameter
estimates are the corresponding t-value.

10
 Table 3: AIC and SBC for Specific ARIMA Models
ARIMA Model AIC SBC
ARIMA (1,1,2) 1628.3 1643.1
ARIMA (1,1,1) 1629.6 1639.3
ARIMA (3,1,0) 1630.5 1645.1
ARIMA (3,1,1) 1630.0 1650.0
ARIMA (1,1,3) 1630.5 1650.0
ARIMA (3,1,2) 1632.6 1656.0
ARIMA (1,1,0) 1641.8 1646.6
ARIMA (0,1,3) 1644.7 1659.3
ARIMA (0,1,1) 1674.6 1679.5

Figures 5 and 6 and Table 4 report the SAC and SPAC of the
residuals. The data show that none of the autocorrelations is individually
significant. For example, based on the first 5 and 10 residual
observations, the hypothesis that ARIMA (1,1,2) specification is correct
only be rejected at the 99.1% and 96.4% levels respectively.
Furthermore, we analyze the residuals obtained from the model using the
Ljung-Box (1978) ststistic, which is:
k
Q   n(n  2) (n  1) 1 rl 2 (aˆ ) (5)
l 1
Where n  = n – d, where n is the number of observations in the
original time series, and d is the degree of nonseasonal differencing used
to transform the original time series values into stationary time series
values. rl 2 (aˆ ) is rl (aˆ ) , the square of the sample autocorrelation of the
residuals at lag l-that is, the sample autocorrelation of residuals separated
by a lag of l time units, see, Bowerman and O‟Connell (1993:496).
Since d =1 is the degree of differencing used to transform the original
time series values into stationary time series values, the n  used to
calculate Q* is n  = n – d = 958 –1 = 957. For the RSAC the Q* based on
16 lags is about 8.837 which is less than 26.2962 (the critical Q value
from the chi-square table at 5% level of significance). Thus, we cannot
reject the adequacy of the model by setting  = .05. Also, since the prob-
value to the right of this Q* is 0.920 > 0.05 =  , we cannot reject the
adequacy of the model by setting  = .05.
Since Table 4 shows that the prob-values associated with Q*
based on all lags are all greater than .05, and since there are no spikes in
the RSAC or RSPAC, we conclude that the model is adequate. Moreover,
more elaborate models did not produce superior results. Accordingly,
forecasts can be based on the fitted model with confidence. Finally, Table
5 gives point forecasts (up to five days after the last day of the series)

11
together with the upper and lower limits of the 95% confidence level
intervals. Figure shows how close the forecasted values given by the
ARIMA (1,1,2) model. The results suggest a very good fit.
Error for Stock Prices Using ARIMA (1,1,2) Model
.08
.06
.04
.02
ACF

0.00
-.02
-.04 Confidence Limits
-.06
-.08 Coefficient
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16

Lag Number
Figure 5: Sample Autocorrelations
of the residuals of ARIMA(1,1,2) Model

Error for Stock Prices Using ARIMA (1,1,2) Model

.08
.06
.04
Partial ACF

.02
0.00
-.02
-.04 Confidence Limits
-.06
-.08 Coefficient
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16

Lag Number
Figure 6: Sample Partial Autocorrelations
of the Residuals of ARIMA(1,1,2) Model

Table 4: Autocorrelations and Partial Autocorrelations of Errors

for Stock Prices from ARIMA (1,1,2) Model

Lag SAC Box-Ljung Prob. SPAC

1 0 0.000 0.997 0
2 -0.001 0.001 1.000 -0.001
3 0.005 0.026 0.999 0.005
4 0.015 0.243 0.993 0.015
5 -0.017 0.512 0.992 -0.017
6 -0.017 0.779 0.993 -0.017
7 -0.037 2.084 0.955 -0.037
8 0.027 2.796 0.946 0.027
9 -0.014 2.977 0.965 -0.013
10 0.021 3.420 0.970 0.022
11 -0.002 3.423 0.984 -0.002
12 0.018 3.740 0.988 0.016
13 0.041 5.411 0.965 0.041
14 0.019 5.752 0.972 0.017
15 0.054 8.617 0.897 0.057
16 0.013 8.776 0.922 0.011

12
 Table 5 Forecasts for daily GPIX of Doha Stock market
Period Forecast Lower Upper Std Error
959 147.80 95%
145.95 95%
149.65 0.94
960 147.95 145.45 150.45 1.27
961 148.07 144.97 151.17 1.58
962 148.16 144.49 151.82 1.87
963 147.80 145.95 149.65 0.94

Figure 7: Actual and Forecasted Values (Using ARIMA (1,1,2)

of Doha Stock Market General Index
160

150

140

130
Shares Prices

120

110
Actual Vales
100 Forecasted Values
90 Using ARIMA (1,1,2)
1 96 191 286 381 476 571 666 761 856 951

Days

III. Conclusion
This paper has considered autoregressive integrated moving
average (ARIMA) forecasting. ARIMA models are theoretically justified
and can be surprisingly robust with respect to alternative (multivariate)
modeling approaches. A framework for ARIMA modeling is identified
which includes the following steps: data collection and examination;
determining the order of integration; model identification; diagnostic
checking; and, forecast performance evaluation. Using (ARIMA) models,
we find significant evidence of predictability in the stock prices series of
an emerging capital market, the Doha stock market in Qatar. Such results
are significant to security analysts, investors and securities exchange
regulatory bodies in their policy-making decisions to improve the market
condition. This study should have a continuous research on this area to
achieve essential conclusion about the level of predictability of this
market.

13
 References

Doha Stock Market, (2000), Annual Report, Information and public

Relations Department, Doha, Qatar.
Bowerman, B. And R. T. O'Connell (1993), Forecasting and Time
Series: An Applied Approach, 3rd ed., Belmont, California:
Wadsworth, Inc.
Box, G. and G. Jenkins (1976), Time Series Analysis: Forecasting and
Control, San Francisco, California: Holden-Day.
Box, G., G. Jenkins and G. Reinsel, (1994), Time Series Analysis,
Forecasting and Control. 3rd ed. N.J.: Prentice Hall, Englewood Clifs.
Fama, E., and K. French, (1996), “Multifator Explanations of Asset
Pricing Anomalies,” Journal of Finance, pp. 55-84.
Fama, E., and K. French, (1988), “Permanent and temporary components
of stock prices,” Journal of Political Economy, 96, pp. 264-273.
Gujarati, D. N. (1995) Basic Econometrics, 3rd ed., London: McGraw-
Hill, Inc.
Ljung G. and G. Box, “On a Measure of Lack of Fit in Time Series
Models,” Biometrika, Vol. 66, pp. 66-72, as in Gujarati, D. N. (1995)
Basic Econometrics, 3rd ed., London: McGraw-Hill,Inc, p.717.
Lo, A., and A. MacKinlay, (1988), “Stock market prices do not follow
random walks: evidence from a simple specification test,” The Review
of Financial Studies, 1, pp. 41-66.
McQueen, G., M. Pinegar, and S. Thorley, (1996), “Delayed Reaction to
Good News and the Cross-Autocorrelation of Portfolio Returns,”
Journal of Finance, pp. 889-920.
Metwally, M., (2001), Forecasting the demand for Electricity and Water
in the State of Qatar: A Box-Jenkins approach, National Center for
Economic Research, University of Qatar, Qatar.
Mobarek, A. and K. Keasey, (2000), Weak-form market efficiency of an
emerging Market: Evidence from Dhaka Stock Market of Bangladesh,”
the ENBS Conference held on Oslo, May 2000.
Pelaez, R. F., (1998), “Economically significant stock market
forecasts,”[Electronic version]i. The Financial Review, 33, 1, pp. 65-77.
Poterba, J. and L. Summers, (1988), “Mean reversion in stock returns:
evidence and implications,” Journal of Financial Economics, 22, pp.
27-59.
Qatar National Bank, (2001), “Doha Securities Market,”[Electronic
Version] Qatar Economic Review, Section 11.
Qatar Shareholding Companies Guide, (2000), “Doha Securities
Market,” Information and Relations Department, vol. 4.

14
Seiler, M. J. and W. Rom, (1997), “A Historical Analysis of Market
Efficiency: Do Historical Returns Follow A Random Walk?,” Journal
Of Financial And Strategic Decisions, pp. 200-225
Shleifer, A. and Vishny, R. (1997), „The Limits of Arbitrage‟, Journal of
Finance 52(1), 35–55.

Yao, J; C. Tan and H. Poh, (1999), “Neural Networks For Technical

Analysis: A Study on KLCI,” International Journal of Theoretical and
Applied Finance, pp. 221-241.
i
I use APA style presented in http://www.apastyle.org/elecsource.html.

15