Bank Functional Diversification and Stock Market Response: Empirical Evidence from GCC Stock Market

This research investigates the influence of income diversification on stock market performance and associated risks within 81 GCC banks over the period from 2011 to 2020. The study classifies the banks into two categories: Conventional Banks (CBs) and Islamic Banks (IBs). It employs non-interest and non-financing income as metrics for assessing diversification. Utilizing dynamic panel econometric techniques, this study assesses key performance indicators, specifically Market-Equity to Book-Equity Value (MEBE) and Stock Return (SR), as well as risks such as Idiosyncratic Risk, Market Beta, and Total Risk. In CBs, income diversification exhibits a positive correlation with both MEBE and SR, suggesting improved market efficiency and investor confidence. However, this diversification also leads to an increase in idiosyncratic risk. Conversely, in IBs, income diversification is negatively associated with MEBE and SR, which may be attributed to deviations from traditional practices and varied risk exposure, without a significant impact on idiosyncratic risk. Additionally, both types of banks demonstrate a negative correlation between market beta risk and diversification, indicating reduced sensitivity to market fluctuations. The relationship between total risk and diversification is found to be non-significant for both bank types. The study underscores the multifaceted and diverse impacts of income diversification on the market performance and risk profiles of GCC banks. It emphasizes the necessity for banking models to implement tailored diversification strategies that align with the unique financial landscape of the GCC region. This insight is crucial for policymakers and banking professionals aiming to manage risks effectively in these dynamic markets.