Anticipatory effects in the FTSE 100 index revisions

This paper examines the price impact of trading due to expected changes in the FTSE 100 index composition, which employs publicly-known objective criteria to determine membership. Hence, it provides a natural context to investigate anticipatory trading effects. We propose a panel-regression event study that backs out these anticipatory effects by looking at the price impact of the ex-ante probability of changing index membership status. Our findings reveal that anticipative trading explains about 40% and 23% of the cumulative abnormal returns of additions and deletions, respectively. The results are both statistically and economically significant.     

Stock liquidity and investment opportunities: New evidence from FTSE 100 index deletions

This paper examines the relationship between stock liquidity and investment opportunities in a sample of firms experiencing a negative exogenous liquidity shock, captured by deletion from the FTSE 100 stock index. We find no statistical association between stock liquidity and investment opportunities. These findings are in sharp contrast to the positive relation between liquidity and investment opportunities reported in US equity markets. This unique result in the London Stock Exchange suggests that deletion from a major stock index does not influence corporate investment decisions because there is no significant change in the cost of capital.     

Market liquidity in the financial crisis: The role of liquidity commonality and flight-to-quality

We examine the dynamics and the drivers of market liquidity during the financial crisis, using a unique volume-weighted spread measure. According to the literature we find that market liquidity is impaired when stock markets decline, implying a positive relation between market and liquidity risk. Moreover, this relationship is the stronger the deeper one digs into the order book. Even more interestingly, this paper sheds further light on so far puzzling features of market liquidity: liquidity commonality and flight-to-quality. We show that liquidity commonality varies over time, increases during market downturns, peaks at major crisis events and becomes weaker the deeper we look into the limit order book. Consistent with recent theoretical models that argue for a spiral effect between the financial sector’s funding liquidity and an asset’s market liquidity, we find that funding liquidity tightness induces an increase in liquidity commonality which then leads to market-wide liquidity dry-ups. Therefore our findings corroborate the view that market liquidity can be a driving force for financial contagion. Finally, we show that there is a positive relationship between credit risk and liquidity risk, i.e., there is a spread between liquidity costs of high and low credit quality stocks, and that in times of increased market uncertainty the impact of credit risk on liquidity risk intensifies. This corroborates the existence of a flight-to-quality or flight-to-liquidity phenomenon also on the stock markets.     

Understanding commonality in liquidity around the world

We examine how commonality in liquidity varies across countries and over time in ways related to supply determinants (funding liquidity of financial intermediaries) and demand determinants (correlated trading behavior of international and institutional investors, incentives to trade individual securities, and investor sentiment) of liquidity. Commonality in liquidity is greater in countries with and during times of high market volatility (especially, large market declines), greater presence of international investors, and more correlated trading activity. Our evidence is more reliably consistent with demand-side explanations and challenges the ability of the funding liquidity hypothesis to help us understand important aspects of financial market liquidity around the world, even during the recent financial crisis.     

The world price of liquidity risk

This paper empirically tests the liquidity-adjusted capital asset pricing model of Acharya and Pedersen (2005) on a global level. Consistent with the model, I find evidence that liquidity risks are priced independently of market risk in international financial markets. That is, a security’s required rate of return depends on the covariance of its own liquidity with aggregate local market liquidity, as well as the covariance of its own liquidity with local and global market returns. I also show that the US market is an important driving force of global liquidity risk. Furthermore, I find that the pricing of liquidity risk varies across countries according to geographic, economic, and political environments. The findings show that the systematic dimension of liquidity provides implications for international portfolio diversification.     

Asymmetric stock price and liquidity responses to changes in the FTSE SmallCap index

We examine market reactions to changes in the FTSE SmallCap index membership, which are determined quarterly based on market capitalization and are free of information effects. Our main results are asymmetric price and liquidity responses between the firms that are shifted between FTSE indexes and the firms that are new to FTSE indexes. Firms promoted from a smaller-cap to a larger-cap FTSE index experience a permanent increase in stock price accompanied by improvements in liquidity. Similarly, firms demoted from a larger-cap to a smaller-cap FTSE index experience a permanent decrease in stock price accompanied by declines in liquidity. In contrast, firms added to the FTSE SmallCap index that were not previously in FTSE indexes show a transitory price gain and declines in liquidity. The results support the liquidity and price pressure hypotheses.     

Dynamic effects of idiosyncratic volatility and liquidity on corporate bond spreads

We study the dynamic impact of idiosyncratic volatility and bond liquidity on corporate bond spreads over time and empirically disentangle both effects. Using an extensive data set, we find that both idiosyncratic volatility and liquidity are critical mainly for the distress portfolios, i.e., low-rated and short-term bonds; for others only volatility matters. The effects of volatility and liquidity shocks on bond spreads were both exacerbated during the recent financial crisis. Liquidity shocks are quickly absorbed into bonds prices; however, volatility shocks are more persistent and have a long-term effect. Our results overall suggest significant differences between how volatility and liquidity dynamically impact bond spreads.     

New evidence on oil price and firm returns

In this paper, we examine the relationship between oil price and firm returns for 560 US firms listed on the NYSE. First, we find that oil price affects returns of firms differently depending on their sectoral location. Second, we find strong evidence of lagged effect of oil price on firm returns. Third, we test whether oil price affects firm returns based on different regimes and find that in five out of the 14 sectors this is indeed the case. Finally, we unravel that oil price affects firm returns differently based on firm size, implying strong evidence of size effects.     

Information costs and liquidity effects from changes in the FTSE 100 list

Abstract

In this paper we examine the stock price effect of changes in the composition of the FTSE 100 over the time period of 1984–2001. Like the S&P 500 listing studies, we find that the price and trading volume of newly listed firms increases. The evidence is consistent with the information cost/liquidity explanation. This is because investors hold stocks with more available information, implying that they have lower trading costs. This explains the increase in the stock price and trading volume of newly listed stocks to the FTSE 100 List. We find the reverse effect for the deletions from the FTSE 100.     

Behavior of liquidity and returns around Canadian seasoned equity offerings

Spread costs and their adverse selection and temporary components for Canadian SEOs follow an approximate V-shaped pattern with a trough at the closing window. Enhanced ownership diffusion partly explains the decrease in these spread costs post-SEO completion versus pre-SEO announcement. SEO spread costs decrease after the April 1996 TSX decimalization. The adverse selection cost of privately-placed Canadian SEOs decreases after Multilateral Instrument 45-102 reduced the lock-up period to four months in 2001. Consistent with results for non-US SEOs, negative abnormal returns (ARs) occur in announcement windows for undifferentiated SEOs. ARs are significantly different for public (significantly negative) versus private (insignificantly positive) SEOs consistent with their associated differential reductions in information asymmetry. Conditional residual volatilities decrease post-announcement, consistent with a diminished temporary spread cost and expected behavior following an unanticipated event.     

IPO first-day returns,offer price revisions,volatility, and form S-1 language

Form S-1 is the first SEC filing in the initial public offering (IPO) process. The tone of the S-1, in terms of its definitiveness in characterizing the firm’s business strategy and operations, should affect investors’ ability to value the IPO. We find that IPOs with high levels of uncertain text have higher first-day returns, absolute offer price revisions, and subsequent volatility. Our findings provide empirical evidence for the theoretical models of uncertainty, bookbuilding, and prospect theory.     

Gaming the FTSE 100 index

In the UK (unlike the US and many other countries), companies enter and exit the main stock market index (FTSE 100) according to a clear set of rules based on market capitalisation. This creates an opportunity to game the system to secure or retain FTSE membership by manipulating capitalisation. There is considerable evidence in extant studies that index membership is beneficial, both for shareholders and managers. Hence, companies may adopt financial strategies designed to acquire or retain membership. We investigate two types of gaming. We define strategic gaming as a situation in which companies, which may initially be a number of places away from the boundary, make abnormal share issues cumulatively over several quarters. We find strong supportive evidence for this. For tactical gaming, which would involve companies in the very closest proximity to the boundary, we do not. Our analysis shows that gaming is limited to companies outside the index trying to get in. Companies that are close to exit do not game to retain their index place. The high natural volatility of market capitalisation makes success of gaming uncertain. Our central estimate is that about 5% of entries to the index appear to be the result of gaming.     

Lost in translation: Delayed ex-dividend price adjustments of Hong Kong ADRs

Previous research documents that Hong Kong stocks have a full ex-dividend price adjustment consistent with dividends and capital gains being tax free. We examine ex-dividend price behavior of Hong Kong ADRs to assess the impact of differing tax environments in US and Hong Kong. These ADRs typically go ex-dividend before their underlying stock. They experience significant abnormal returns of 1.16% on their ex-day; the average ex-day price drop is only 30% of the dividend. However, ADR prices drop when the underlying stock goes ex-dividend subsequently. The cumulative ADR price drop is equal to the dividend. Thus, the ADR ex-dividend adjustment resembles that of the underlying stock, consistent with home country tax laws governing ADR price behavior. Neither liquidity nor transaction costs can explain the anomalous delayed ex-dividend adjustment of ADRs.     

Systematic liquidity risk and stock price reaction to shocks

This study examines the relationship between systematic liquidity risk and stock price reaction to large 1‐day price changes (or shocks). We base our analysis on a yearly updated constituents list of the FTSE All share index. Our overall results are consistent with the price continuation hypothesis, which suggests that positive (negative) shocks will be followed by positive (negative) abnormal returns. However, further analysis indicates that stocks with low systematic liquidity risk react efficiently to both positive and negative shocks, whereas stocks with high systematic liquidity risk underreact to both positive and negative shocks. Our results are valid irrespective of various robustness tests such as size of the shock, size of the firm, month‐of‐the‐year and day‐of‐the‐week effects. We conclude that trading on price patterns following shocks may not be profitable, as it involves taking substantial liquidity exposure.     

Stock price informativeness,cross-listings,and investment decisions

We show that a cross-listing enables firms to obtain, from the stock market, more precise information about the value of their growth opportunities. Thus, cross-listed firms make better investment decisions and trade at a premium. This theory of cross-listings implies that the sensitivity of investment to stock prices is larger for cross-listed firms. Moreover, the cross-listing premium is positively related to the size of growth opportunities and negatively related to the quality of managerial information. The sensitivity of the premium to the size of growth opportunities increases with factors that strengthen the impact of the cross-listing on price informativeness.     

In Defence of Capitalisation Weights: Evidence from the FTSE 100 and S&P 500 Indices

A simple method for decomposing the variance covariance matrix of portfolio returns at the level of individual stocks is applied to the FTSE 100 Index. During extreme negative shocks, the largest index constituents exhibit lower than average covariance, thereby reducing the volatility of the capitalisation‐weighted index. The risk‐adjusted returns of the capitalisation‐weighted FTSE 100 Index exceed those of an equally‐weighted version of the same index and the outperformance is robust to the method of risk adjustment applied. The equally‐weighted index also exhibits greater systematic (market) risk than the capitalisation‐weighted version.     

Covered interest arbitrage profits: The role of liquidity and credit risk

We study the profitability of Covered Interest Parity (CIP) arbitrage violations and their relationship with market liquidity and credit risk using a novel and unique dataset of tick-by-tick firm quotes for all financial instruments involved in the arbitrage strategy. The empirical analysis shows that positive CIP arbitrage deviations include a compensation for liquidity and credit risk. Once these risk premia are taken into account, small arbitrage profits only accrue to traders who are able to negotiate low trading costs. The results are robust to stale pricing and the nonsynchronous trading occurring in the markets involved in the arbitrage strategy.     

New evidence on price impact of analyst forecast revisions

Previous research shows a positive relationship between consensus forecast revisions and stock returns in developed markets. We obtain new evidence from four major Asia-Pacific markets that suggest that abnormal returns are related to latest forecast revisions. The price impact of negative revisions is consistently stronger than that of the positive revisions. We also found considerable differences in price impact between developed and emerging markets for positive revisions, while no such difference is detected for negative revisions. The latest forecast revisions and category of analysts (those working in international broking firms) appear to be two key determinants of abnormal stock returns.     

Financial crisis and stock market efficiency: Empirical evidence from Asian countries

This paper empirically investigates the effects of the 1997 financial crisis on the efficiency of eight Asian stock markets, applying the rolling bicorrelation test statistics for the three sub-periods of pre-crisis, crisis, and post-crisis. On a country-by-country basis, the results demonstrate that the crisis adversely affected the efficiency of most Asian stock markets, with Hong Kong being the hardest hit, followed by the Philippines, Malaysia, Singapore, Thailand and Korea. However, most of these markets recovered in the post-crisis period in terms of improved market efficiency. Given that the evidence of nonlinear serial dependencies indicates equilibrium deviation resulted from external shocks, the present findings of higher inefficiency during the crisis are not surprising as in the chaotic financial environment at that time, investors would overreact not only to local news, but also to news originating in the other markets, especially when the news events were adverse.     

Stock price synchronicity and analyst coverage in emerging markets

This paper examines the relation between the stock price synchronicity and analyst activity in emerging markets. Contrary to the conventional wisdom that security analysts specialize in the production of firm-specific information, we find that securities which are covered by more analysts incorporate greater (lesser) market-wide (firm-specific) information. Using the R² statistics of the market model as a measure of synchronicity of stock price movement, we find that greater analyst coverage increases stock price synchronicity. Furthermore, after controlling for the influence of firm size on the lead–lag relation, we find that the returns of high analyst-following portfolio lead returns of low analyst-following portfolio more than vice versa. We also find that the aggregate change in the earnings forecasts in a high analyst-following portfolio affects the aggregate returns of the portfolio itself as well as those of the low analyst-following portfolio, whereas the aggregate change in the earnings forecasts of the low analyst-following portfolio have no predictive ability. Finally, when the forecast dispersion is high, the effect of analyst coverage on stock price synchronicity is reduced.