Volatility Transmission and Spillover Effect of Interest Rate and Exchange Rate on the Islamic Stock Index of Pakistan

Purpose- This research examines how fluctuations in the exchange rate and the interest rate are transmitted to the Islamic stock index of Pakistan, focusing on the volatility transmission and spillover effect of both macroeconomic variables on the Karachi Meezan Index (KMI-30). Design/Methodology/Approach- This is a quantitative, empirical study based on secondary daily time series data from January 2013 to December 2022. The Augmented Dickey-Fuller test was used to examine stationarity, and the ARCH test, GARCH(1,1), TGARCH(1,1), EGARCH(1,1) and a multivariate (diagonal BEKK) GARCH model were estimated to test the hypotheses. Findings- The stationarity tests show that all variables are non-stationary at level and stationary at first difference. The GARCH models indicate that fluctuations in the exchange rate have a significant negative relationship with the Islamic stock index and transmit negative shocks to it, so currency fluctuations would adversely affect the index. Variations in the interest rate had no significant impact on the Islamic stock index over time. Originality/Value- Earlier studies concentrate mainly on volatility spillovers between Islamic and conventional indexes and on market integration. This study examines the effect of exchange rate and interest rate volatility directly on the Islamic stock index of Pakistan and has implications for government officials, investors and business management.