An examination of the relationship between the Economic Freedom Index value and the matching country specific exchange traded fund return

Abstract

Purpose

The paper aims to determine if a country's Economic Freedom Index value has any relationship to the return of the related country specific exchange traded fund.

Design/methodology/approach

A total of 36 country specific exchange traded funds were selected for use in this study. The historical returns for 2011, the three‐year period ending in 2011, and the five‐year period ending in 2011 were recorded if available for each exchange traded fund. Each exchange traded fund (ETF) was placed into one of four groups based upon its country's overall Economic Freedom Index value. The range of Economic Index values for each group was the same ones used by the publishers of the Economic Freedom Index. The mean ETF return and standard deviation for 2011, three‐year, and five‐year periods were calculated for each of the four groups. The mean/standard deviation of the Economic Freedom Index and each of its components for 2011, the mean of the three‐year period, and the mean of the five‐year period were calculated for each of the four groups. The degree of statistical significance between the mean returns of the four groups was determined by using ANOVA. The correlation coefficients and the degree of statistical significance were calculated between each component of the index, between each component and the overall index value, and between the overall index value and the ETF returns.

Findings

The correlations between the components of the Economic Freedom Index generally tend to be positive and statistically significant. The correlations between the components of the Economic Freedom Index and the Economic Freedom Index tend to be positive and statistically significant. The correlation between the mean ETF returns of the various groups and the value of the mean Economic Freedom Index tends to be mixed. There appears to be no statistical significance of the difference between the mean ETF returns of each group and the mean overall score of the Economic Freedom Index for that group. For the year 2011 the level of significance was 0.103, for the three‐year period the level of significance was 0.541, and for the five‐year period the level of significance was 0.132. The differences within each group are more than the differences between the groups. The value of the Economic Freedom Index does not appear to correlate with the return of the country specific exchange traded fund.

Originality/value

The paper relates a country's environment for conducting business as represented by its Economic Freedom Index to the equity returns of firms in that country. The results of this study would be of interest to those individuals or institutions making investment decisions regarding country specific exchange traded funds. If a positive correlation exists between the index value and the return of the exchange traded fund, this information could improve the prediction of country specific exchange traded fund returns.

Citation

Peterson, T. (2013), "An examination of the relationship between the Economic Freedom Index value and the matching country specific exchange traded fund return", Managerial Finance, Vol. 39 No. 7, pp. 677-690. https://doi.org/10.1108/03074351311323464