Research objectives
This paper evaluates the characteristics of firms that influence foreign investors' decisions regarding buying, selling, and their long-term ownership ratios, with a focus on clarifying these factors within specific industries.
Economic theories
Definition of key concepts
Foreign capital typically flows into developing and emerging countries through three main channels: foreign direct investment (FDI), portfolio investment, and foreign debt FDI occurs primarily through Greenfield investments and mergers & acquisitions, both of which have seen significant growth in emerging markets Conversely, portfolio investment encompasses equity and debt securities, including bonds, money market instruments, and financial derivatives.
Investors in country A could invest in country B or vice versa to seek for diversification in their portfolios in term of risk (balancing their portfolios) and expected (equity) return
(b) Foreign investment in relation to stock market
Numerous empirical studies indicate that Foreign Direct Investment (FDI) has a significant positive impact on the development of domestic stock markets, as highlighted by Adam and Tweneboah FDI is shown to complement stock market growth, demonstrating a positive correlation with market capitalization and domestic value traded, according to Claessens et al (2001) Additionally, as financial markets become more globally integrated, foreign portfolio investment has been observed to increase, offering advantages such as high mobility in capital flows and alleviating certain limitations in the bond markets of developing and emerging economies.
Foreign investors are consistently on the lookout for lucrative investment opportunities, often shifting their capital from firms with limited potential to those with greater prospects Notably, the average returns on various investor portfolios can vary significantly, as some investors prioritize ownership of stocks or companies for specific goals, such as fostering business relationships and exercising control, rather than solely seeking high returns (Kim et al., 2005).
Analyzing firm characteristics through financial ratio analysis is essential for understanding a company's performance According to Ross et al (2005; 2010), this analysis is categorized into several key groups: market value measures, profitability measures, short-term solvency or liquidity measures, long-term solvency measures, and asset management or turnover measures.
This article will primarily examine four key financial metrics: market value, liquidity, profitability, and long-term solvency Additionally, it will address the impact of dividend policy on a firm's capacity for sustained growth, as highlighted by Ross et al (2005; 2010).
Relationship between foreign investor and firm characteristics
Foreign Direct Investment (FDI) flows are significantly influenced by stock evaluation components that indicate mispricing, particularly in environments with capital account restrictions that hinder portfolio investors' ability to engage in arbitrage (Baker et al., 2009) This highlights the crucial relationship between foreign investors and market value measures.
Market capitalization significantly influences stock returns for foreign investors, who tend to favor large-cap firms due to their redemption and liquidity needs This preference helps mitigate systematic risk associated with foreign investments.
Research indicates that foreign investors generally favor firms with large market capitalization and robust financials (Kang and Stulz, 1997; Lin and Shiu, 2001; Kim et al., 2005) However, contrasting studies reveal that smaller firms often yield higher stock returns compared to their larger counterparts (Banz, 1981; Keim, 1983; Basu, 1983).
Research indicates a mixed relationship between the price-to-book (PB) ratio and stock returns, with some studies (Fama and French, 1992; Daniel and Tittman, 1997) suggesting a negative correlation, implying that foreign investors could achieve higher returns by purchasing low PB stocks (Dhatt, Kim, and Mukherji, 1999) Conversely, other studies (Lin and Shiu, 2001; Kim et al., 2005; Bae et al., 2011) reveal a preference among foreign investors for stocks with a high PB ratio.
In regard to PE ratio, this is considered to be the single most important variable in determining a share’s price As a matter of fact, Basu (1977), Breen (1978) and Dreman
Research indicates that stocks with low price-to-earnings (PE) ratios often yield higher average returns compared to those with high PE ratios Conversely, recent empirical studies reveal that foreign investors typically purchase outperforming stocks while selling those that underperform in relation to the market.
Research indicates a significant positive relationship between foreign ownership and key financial metrics such as Return on Equity (ROE) and Earnings Before Interest, Taxes, Depreciation, and Amortization (EBITDA) Kim et al (2005) highlighted that foreign investors prioritize companies with high ROE ratios, which are crucial for their investment decisions Bae et al (2011) further confirmed that foreign investors tend to favor stocks of Korean companies with elevated ROE and Return on Assets (ROA), showing that their selected "buy" stocks consistently outperform their "sell" stocks in profitability over time Additionally, Kang et al (2010) found that higher corporate profitability, as measured by EBITDA, is positively associated with increased foreign ownership in firms listed on the Korean Stock Exchange.
According to Kang et al.(2010), liquidity ratio has positively correlated with foreign ownership into Korean Stock Exchange listed companies However, Vo Xuan Vinh
(2010) found that liquidity ratio has negatively correlated with foreign ownership for firms listed on Ho Chi Minh Stock Exchange
Foreign investors tend to adopt a buy-and-hold strategy for their long-term positions, rather than engaging in short-term trading Additionally, there is a notable relationship between foreign investors and the financial leverage ratio.
Many empirical studies revealed that foreign investors favor firms with low debt ratio (Kang and Stulz, 1997; Lin and Shiu,2001; Kang et al.,2010 and Vo Xuan Vinh,
Foreign investors tend to favor companies with a low leverage ratio; however, research by Bae et al (2011) indicates that firm leverage does not significantly influence their buying or selling decisions This finding aligns with the conclusions drawn by Mishra and Ratti (2011) Additionally, the relationship between foreign investors and dividend policy remains a critical area of study.
Besides preferring large-size firms , foreign investors were found to prefer stocks with high dividend yield (Jeon et al., 2010; Mishra and Ratti, 2011 and Bae et al.,2011)
Meanwhile, Dahlquist and Robertsson (2001) found that foreign investors also prefer stocks of lower paid-dividend firms.
Related empirical studies
Table 2.1: Summary of related empirical studies as following table:
Panel data with random effect model
They prefer large firms with high PB ratio, low dividend yield
2001) Stock.E foreign and institutional ownership
Firm size, PB ratio, ROE, average return
Fama–French three-factor mode
F.ownership positively correlated with firm size,
20 stocks in Thailand stock Market (1999-
Daily purchase, and total value of foreigners
PE,PC,MKC, Price, ownership data
A standard linear model, Panel data with pooled model
Their buying, selling and net purchase have a positive relationship with firm size and negative relationship with PE ratio
A standard linear model, Panel data with Pooled model
Foreigners prefer large firms, firms with low PB, or low leverage ratio
Daily trading in Korean Stock Market (1996-
Buying and selling among groups of investors
PE, PB, Dividend, CF⁄ Sales three reference pricing models
They buy stocks with higher ROE and ROA than their selling, prefer stocks of large firms and high dividend yield.
Conceptual framework
All expected relationships among variables could be likely summarized as the following tables:
Table 2.2: Summary of expected signs:
Expected signs Buy volume Sell volume Ownership ratio
Current Ratio (times) Quick Ratio (times)
SELLING AND BUYING VOLUME Net purchase
Research context
Since its establishment in 2000 for the Ho Chi Minh Stock Exchange (HSX) and 2005 for the Hanoi Stock Exchange (HNX), the stock market has played a crucial role in mobilizing capital for the economy, significantly impacting the annual percentage of total volume relative to GDP.
Table 3.1: Viet Nam Market capitalization
Vietnam stock Market capitalization (%GDP)
% GDP Market capitalization of listed companies (current US$ mil.)
Source: Word Bank – Global Financial Data
Source of Data and its definition
Firstly, the research will select data from 2007 to 2011 just because only from 2006 onward the total volume trading by foreign investors has significantly increased
The study will analyze listed stocks from three key sectors in HSX and HNX: Construction and Real Estate, Manufacturing, and Finance and Insurance, focusing on companies listed before 2007 It will specifically examine firms in the finance industry with a market capitalization exceeding VND 100 billion as of July 13, 2012 This research will involve a sample of over 98 listed companies, yielding more than 420 observations over a five-year period, highlighting the generated foreign trading activities.
Table 3.2: the structure of industry in dataset(as of July 13, 2012)
Source: Author’s calculate on the data set
(i) Market Capitalization (MKC): this variable is the market capitalization of each firm at the year-end
(ii) Dividend paid (DIV): how much dividend actually paid to each shareholder
The Price Book ratio (PB) is a financial metric that compares a company's market value to its book value This ratio helps investors assess how the market values a firm in relation to its actual worth, calculated by dividing the market value by the book value.
(iv) Price Earning ratio (PE): a share price divided by earning per share (v) Return on Equity (ROE): Net income divided by the book value of equity at year end
(vi) Return on Asset (ROA): An indicator to measure how profitable a company is generated from the invested capital (assets)
Earnings before Interest, Taxes, Depreciation, and Amortization (EBITDA) serves as a key financial metric that helps to remove the impact of financing and accounting choices, allowing for a clearer analysis and comparison of profitability across various companies.
The ownership rate (OWN) indicates the percentage of shares held by foreign investors, with Foreign Investment Laws stipulating that foreigners can own a maximum of 49% of each company This limitation significantly influences foreign investors' trading decisions.
The Debt to Equity Ratio (DEBT) is calculated by dividing total liabilities by total equity, typically at the end of the fiscal year Meanwhile, the Current Ratio (C_Ratio) assesses a company's capacity to meet short-term obligations, determined by dividing current assets by current liabilities.
(xi) Quick Ratio (Q_Ratio): is calculated as (Current Assets - Inventories) / Current Liabilities
Research Methodology
The estimated equation is a linear regression model as follows:
- YI,t denotes buying, selling and ownership ratio for firm i at trading year t
- XJ, I, t presents the firm characteristic variables j of firm i at year t which are divided into stock characteristics including MKC, PB, P/E ratio, ROE, ROA, EBITDA , DEBT , C_Ratio, Q_Ratio or Dividend Yield
- αi are random individual-specific effects, β is a vector of our robust estimators; and ε is a error term;
This paper utilizes panel data, which offers distinct advantages compared to pooled data To identify the most suitable models for the specified samples, it will test various regression models, including the Fixed-Effects Model (Least Squares Dummy Variable Model), the Random-Effects Model (Random Intercept, Partial Pooling Model), and the Pooled Model (population-averaged model).
After finalizing the appropriate model, to control for heteroskedasticity the option
The term "robust" will be utilized in the regression analysis To identify potential multicollinearity among variables, the study will apply the variance inflation factor following the regression model, with all relevant tests available in the appendix of this paper.
CHAPTER 4: DATA ANALYSIS AND DISCUSSION
Descriptive Data Analysis
Summary of Data
Table 4.1: Description of variables of the whole sampled stocks: buy sell net_buy own MKC DIV EBITDA
Source: Author’s calculate on the data set with Stata software
The finance industry boasts the highest market capitalization, followed closely by the construction and manufacturing sectors Notably, construction stocks have the highest average price-to-earnings ratio at 25 times, while finance and manufacturing stocks are priced at 15 and 11 times, respectively.
The foreign ownership ratio across surveyed firms in the finance and manufacturing industries stands at 20%, while the construction industry has a slightly lower ratio of 17% Notably, the construction sector exhibits a significantly high mean debt ratio of 2.35 times, compared to 1.33 times in manufacturing and 0.66 times in finance.
Table 4.1: Description of variables of the whole sampled stocks (continued):
PE PB ROE ROA C_Ratio Q_Ratio Debt
Source: Author’s calculate on the data set with Stata software
Table 4.2: The summary of volume and value traded of the whole sample
Source: Author’s calculate on the data set with Stata software
In 2010, Vietnam experienced a significant net inflow of portfolio equity, accounting for 2.24% of its GDP, as indicated in Table 4.3 During this period, the average price-to-earnings (PE) ratio across the sample was notably low at 10 times, as shown in Table 4.4 This suggests that stocks in Vietnam were relatively undervalued, attracting considerable foreign investment.
2010 were cheapest during five years.
Table 4.3: Percentage of FDI and Portfolio inflows over GDP in Viet Nam
Foreign direct investment, net inflows
Portfolio equity, net inflows (% of GDP) 8.79% -0.63% 0.13% 2.24% 0.86%
Source: World Bank - Global Financial Data
The Vietnam stock market, often perceived as undervalued, consistently attracts foreign capital, particularly in the realm of portfolio equity investments Analyzing the average statistics of key variables over the past five years provides insight into their potential trends.
Table 4.4: the summary of statistics by mean of each industry:
Source: Author’s calculate on the data set with Stata software.
Correlation Matrix
The correlation matrix indicates that, aside from the strong correlation between ROE and ROA, as well as between the Quick and Current ratios, the other variable correlations are relatively low Therefore, the regression model will address multicollinearity among these variables.
Empirical Results
For the whole sample
(a) Firm characteristics and foreign investor’s buying volume:
Table 4.5: The coefficient signs between buy-volume with other independent variables:
Buy volume Whole sample Finance stocks Construction stocks Manufacturing stocks
(*** and ** present statistical significance level at lower 5% and 10%, respectively)
Foreign investors are inclined to purchase value stocks from large firms in the finance and construction sectors that exhibit strong performance and low financial leverage Additionally, across all industries, there is a noticeable decline in their buying volume for companies with high debt ratios These findings align closely with previous empirical studies.
(b) Firm characteristics and foreign investor’s selling volume:
Table 4.6: The coefficient signs between sell-volume with other independent variables:
Sell volume Whole sample Finance stocks Construction stocks Manufacturing stocks
(*** and ** present statistical significance level at lower 5% and 10%, respectively)
The sell-volume variable generally shows a positive correlation with EBITDA across most industries; however, in the finance sector, it also exhibits a significant positive relationship with the ROE ratio and a negative correlation with the PB ratio, unlike the manufacturing industry.
Market size is only to affect to foreign investor’s selling decision in finance industry The relationship among other variables is separately differentiated
(c) Firm characteristics and net purchase variable in relation to foreign investor’s ownership ratio
Table 4.7: The coefficient signs between ownership ratio with other independent variables:
Ownership Whole sample Finance stocks Construction stocks Manufacturing stocks
(***and ** present statistical significance level at lower 5% and 10%, respectively)
The analysis of buy and sell volumes indicates that foreign investors favor purchasing stocks from large, high-performing firms However, when it comes to long-term investments, they prioritize companies with low financial leverage, showing less concern for the size of the firms they invest in.
EBITDA is a crucial factor influencing buying and selling decisions, yet it does not impact ownership ratios This financial metric is particularly significant in the construction industry, where companies primarily deal with tangible assets and utilize one of three flexible methods for depreciation and amortization.
For specified industries
Table 4.8: The coefficient signs for finance industry:
Finance stocks Buy Volume Sell Volume Ownership ratio
(*** and ** present statistical significance level at lower 5% and 10%, respectively)
Foreign investors tend to favor value stocks from large, highly profitable firms characterized by low leverage ratios and low dividend yields Their strategy involves maintaining ownership of these firms over the long term, focusing on high profitability and minimal financial leverage Interestingly, a firm's market capitalization does not significantly influence their long-term ownership ratio.
Table 4.9: The coefficient signs for construction industry:
Construction stocks Buy volume Sell volume Ownership ratio
(***and ** present statistical significance level at lower 5% and 10%, respectively)
Foreign investors in construction stocks typically purchase undervalued large firms with low dividend yields and leverage or quick ratios, while they are inclined to sell overvalued stocks or those from companies with high leverage ratios Notably, the size of the firm does not significantly influence their selling decisions.
For a long-term investment, firms prioritize acquiring businesses with strong profitability, indicated by high EBITDA, low financial leverage, and undervaluation The size of the firm’s market is not a significant consideration in their long-term strategy.
(c) Manufacturing Industry : Table 4.10: The coefficient signs for manufacturing industry:
Manufacturing stocks Buy volume Sell volume Ownership ratio
(*** and ** present statistical significance level at lower 5% and 10%, respectively)
Foreign investors in manufacturing stocks prefer high-profit growth stocks from firms with low financial leverage, while selling stocks from companies with high quick ratios This aligns with the observation that the manufacturing industry has the lowest market capitalization among all sectors, as a high quick ratio indicates inefficient use of cash and cash equivalents.
Firm’s market capitalization does not affect to their trading both in buying and selling, it just only affects to their long term position via their ownership ratio.
Conclusions
Empirical results
The study reveals that a firm's market size does not significantly impact its overall buying and selling decisions However, it does play a role in influencing buying decisions specifically within the finance and construction sectors, as well as affecting selling decisions in the finance industry.
Foreign investors are inclined to trade stocks of highly profitable firms for both short-term and long-term positions In addition to Return on Equity (ROE) and Return on Assets (ROA) as key profitability indicators, Earnings Before Interest, Taxes, Depreciation, and Amortization (EBITDA) also significantly influences their decisions regarding buying and selling for short-term positions, as well as ownership ratios for long-term investments.
The analysis reveals that foreign investors tend to favor purchasing and holding stocks of companies with low leverage ratios across most industries However, in the construction sector, they primarily sell stocks of firms with high leverage ratios, aligning with the hypothesis Conversely, in the finance industry, foreign investors sell stocks of firms with low leverage ratios, which contradicts the hypothesis, while the manufacturing industry shows similar selling behavior, albeit without statistical significance.
The study indicates that the quick ratio is a more statistically significant measure of a firm's liquidity compared to the current ratio However, the relationship between liquidity and ownership ratio is inconclusive and lacks statistical significance While a positive correlation exists between liquidity and trading volume across the entire sample, it is not statistically significant; instead, significant correlations are observed within specific industries.
The ownership ratio across various industries shows a positive correlation with the firm's dividend policy, although this relationship lacks statistical significance Similarly, the correlation between dividend policy and trading volume is consistent across most industries; however, in the finance sector, foreign investors tend to favor trading stocks of companies that offer lower dividend yields.
Policy recommendation
For investors
Domestic investors should focus on firm size and profitability, particularly measured by EBITDA, when making short-term investment decisions in construction stocks for buying and manufacturing stocks for selling, rather than relying on traditional metrics like ROE or ROA.
Investors should exercise caution when using the Price-to-Book (PB) ratio to assess potential stocks, particularly in the context of foreign investor trading patterns Foreign investors often engage with stocks that have low PB ratios, making it essential for investors to analyze these stocks carefully This is especially true for construction sector stocks, where the relationship between the stock's Price-to-Earnings (PE) ratio and the investors' buying or selling positions can significantly impact investment decisions.
Investors considering long-term investments in companies that have historically benefited from foreign ownership should carefully assess the firms' net purchase positions and debt ratios Generally, a higher net purchase and a lower debt ratio indicate a more favorable investment opportunity Additionally, for construction firms, the EBITDA indicator is crucial for making informed long-term investment decisions.
For companies
Companies aiming to attract foreign investors must carefully evaluate their financial leverage, as a higher financial leverage ratio may deter potential investors.
Construction firms must strategically evaluate their appeal to foreign investment, as construction-related stocks are currently overpriced This situation has led foreign investors to seek a reduction in their ownership stakes in these stocks.
Government policy plays a crucial role in attracting foreign capital, as evidenced by the positive correlation between net purchases of foreign investors and portfolio equity In years when net purchases are low or negative, it is essential to reevaluate and adjust policies and regulations to enhance the appeal of the stock market This proactive approach is vital for competing with neighboring emerging markets such as Myanmar and Malaysia.
Standardizing accounting principles for amortization and depreciation to align with global standards is crucial Failing to do so can lead to discrepancies in key financial indicators, such as Return on Equity (ROE), Return on Assets (ROA), and Earnings Before Interest and Taxes (EBIT), ultimately distorting their intended purpose and effectiveness in measuring a firm's profitability.
Limitations
The selected stocks for the finance industry consist exclusively of large firms with a market capitalization exceeding VND 100 billion, focusing only on those that have generated foreign trading activity over the past year.
The paper identifies three industries to promote across the entire market, highlighting that foreign investors' trading volume and ownership in smaller firms (with market capitalizations below VND 100 billion) may reveal their investment strategies This trend suggests a potential shift towards owning and expanding these smaller companies into larger entities or even global players in the future.
Further research
The relationship between net purchases by foreign investors in the Vietnamese stock market and net inflows of portfolio equity into Vietnam is significant, as evidenced by trends observed in quarterly, half-yearly, and yearly periods Analyzing these patterns reveals how foreign investment activity correlates with overall market dynamics and economic conditions in Vietnam Understanding this relationship is crucial for investors and policymakers alike, as it can influence investment strategies and economic forecasts.
Continuous net purchases of stocks by foreign investors over a specific period can indicate strong momentum, often resulting in an increase in stock prices.
A study should be conducted to analyze the long-term stock returns of foreign investors who hold stocks following their net purchases in the initial years This research will focus on a portfolio reflecting these net purchases and evaluate its performance over subsequent years.
For manufacturing firms, it’s necessary to take a further study about the relationship between foreign investor’s ownership ratio and their structure of owner equity as well as their profitability.
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Appendix 1: Testing multicollinearity among variables by using the variance inflation factor for the whole sample:
Variable VIF 1/VIF Variable VIF 1/VIF Variable VIF 1/VIF
PE 1.12 0.892 Mean VIF net_buy 1.14 0.8786
Ownership Ratio variable for whole sample
Buy volume variable for whole sample
Sell volume variable for whole sample
Appendix 2:Testing multicollinearity among variables by using the variance inflation factor for the finance sample:
Variable VIF 1/VIF Variable VIF 1/VIF Variable VIF 1/VIF
Q_Ratio 1.27 0.7888 Mean VIF net_buy_fin 1.11 0.9045
Buy Volume variable for Finance sample
Sell volume variable for Finance sample
Ownership ratio variable for Finance sample
Appendix 3:Testing multicollinearity among variables by using the variance inflation factor for the construction sample:
Variable VIF 1/VIF Variable VIF 1/VIF Variable VIF 1/VIF
Mean VIF Mean VIF net_buy_con 1.33 0.751
Ownership ratio variable for Construction sample
Buy Volume variable for Construction sample
Sell volume variable for Construction Sample
Appendix 4:Testing multicollinearity among variables by using the variance inflation factor for the Manufacturing sample:
Variable VIF 1/VIF Variable VIF 1/VIF Variable VIF 1/VIF
PE 1.79 0.559 PE 1.79 0.559 net_buy_man 1.37 0.732
Mean VIF Mean VIF Mean VIF
Buy volume variable for Manufacturing sample
Sell volume variable for Manufacturing sample
Ownership variable for Manufacturing sample
All samles buy sell net_buy own MKC PE PB EBITDA ROE ROA DIV Debt Q_Ratio C_Ratio buy 1 sell 0.86 1.00 net_buy 0.17 -0.35 1.00 own 0.27 0.19 0.13 1.00 MKC 0.60 0.43 0.29 0.16 1.00
PB 0.12 0.05 0.14 0.08 0.34 0.14 1.00 EBITDA 0.53 0.39 0.21 0.07 0.76 0.06 0.11 1.00 ROE -0.03 -0.07 0.09 0.00 -0.02 -0.07 0.45 -0.04 1.00 ROA 0.23 0.15 0.14 0.20 0.35 -0.07 0.39 0.38 0.70 1.00 DIV -0.06 -0.11 0.10 0.14 0.04 -0.04 0.13 0.01 0.41 0.46 1.00 Debt -0.21 -0.15 -0.09 -0.25 -0.15 0.20 0.08 -0.13 -0.01 -0.37 -0.15 1.00 Q_Ratio 0.12 0.10 0.03 0.02 -0.01 -0.03 0.00 -0.10 -0.10 -0.12 -0.08 -0.20 1.00 C_Ratio 0.09 0.08 0.01 0.02 -0.06 -0.03 -0.01 -0.14 -0.06 -0.09 -0.04 -0.21 0.97 1.00
Finance buy sell net_buy own MKC PE PB EBITDA ROE ROA DIV Debt Q_Ratio C_Ratio buy 1.00 sell 0.88 1.00 net_buy -0.23 -0.66 1.00 own 0.15 0.09 0.06 1.00 MKC 0.40 0.20 0.22 0.00 1.00
PB 0.02 -0.08 0.19 0.10 0.46 0.19 1.00 EBITDA 0.37 0.23 0.11 -0.08 0.75 -0.11 0.08 1.00 ROE -0.01 -0.04 0.07 0.28 -0.03 0.11 0.49 -0.11 1.00 ROA 0.21 0.15 0.03 0.21 0.57 -0.02 0.42 0.61 0.47 1.00 DIV -0.16 -0.17 0.08 0.43 0.17 -0.11 0.29 0.08 0.39 0.46 1.00 Debt -0.14 -0.13 0.05 -0.14 -0.11 0.02 0.15 -0.29 0.33 -0.23 -0.02 1.00 Q_Ratio -0.04 -0.03 0.01 -0.13 -0.28 -0.14 -0.21 -0.27 -0.17 -0.42 -0.23 -0.04 1.00 C_Ratio -0.04 -0.03 0.01 -0.12 -0.28 -0.14 -0.21 -0.27 -0.15 -0.41 -0.22 -0.04 1.00 1.00