There are many theories in literature which try to examine possible reasons for a stock split. While a stock split seems to be just a cosmetic corporate event, it is often claimed that the motivation to carry out a stock split is to signal future profitability or to bring the share price to a preferred trading-range. Additionally there are many papers published, where the impact of a stock split on liquidity and institutional ownership is examined. Some results of these studies are briefly discussed in the Literature Review.
Most researchers calculate their abnormal returns with the market model by using the most common index in their economy. In this paper, I check whether sector-indices fit the data better than the CDAX does. In some cases, the sector-indices describe the stock returns better.
Another topic of event studies that researchers of the finance area often deal with is whether the assumptions of the market model established by Fama, Fisher, Jensen and Roll (1969) do hold for daily stock returns. I will discuss some of the weaknesses when applied to financial time series and I present two models which can improve the efficiency of the model.
Table of Contents
1 Introduction
2 Literature Review
2.1 Signaling hypothesis
2.2 Trading-range hypothesis
2.3 Other hypothesis
3 Data and Methodology
3.1 Data
3.2 Calculating Abnormal Returns
3.3 Standardized Residual Test
4 Empirical Results
5 Problems and Extensions of the Standard Market Model
5.1 Assumptions of the Market Model
5.2 GARCH-adjusted Market Model
5.3 Time-varying beta in the Market Model
6 Conclusion
Objectives and Research Themes
This paper investigates the effectiveness of using sector-indices versus the CDAX in event studies concerning stock splits for German companies. It further examines whether the standard market model's assumptions hold for daily stock returns and explores advanced models, such as GARCH adjustments and time-varying beta estimations, to enhance model efficiency.
- Comparison of market model performance: CDAX vs. sector-indices.
- Evaluation of stock split theories (Signaling, Trading-range, Liquidity).
- Analysis of market model assumptions (normality, homoscedasticity, constant beta).
- Implementation of GARCH-adjusted models to address volatility and autocorrelation.
- Examination of time-varying beta processes in financial time series.
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2 Literature Review
According to the signaling hypothesis, a manager decides to carry out a stock split to signal a prosperous perspective of the firm’s performance. While Ikenberry et al. (1996) found significant post-split excess returns, Huang et al. (2002) found that the earnings profitability of the firm was negatively related to the stock split. These two results are very contradictory, since having lower earnings should normally not result in higher returns. Most of the papers on stock splits analyze the US stock market. Wulff (1999) mentions that for the German stock market signaling can not be the main reason for a stock split, since legal restrictions hinder the management to use a stock split for signaling.
Summary of Chapters
1 Introduction: Provides an overview of stock split theories and defines the paper's focus on comparing CDAX with sector-indices and improving market model efficiency.
2 Literature Review: Discusses existing hypotheses regarding stock splits, including the signaling, trading-range, and liquidity improvement theories, with a focus on their applicability to the German market.
3 Data and Methodology: Details the dataset of 13 German companies and the econometric procedures, including OLS regression and the Standardized Residual Test.
4 Empirical Results: Presents the findings regarding coefficient of determination (R²) and abnormal returns, comparing the explanatory power of sector-indices against the CDAX.
5 Problems and Extensions of the Standard Market Model: Addresses the failure of standard OLS assumptions and introduces GARCH-adjusted models and time-varying beta approaches to handle heteroscedasticity and non-constant risk.
6 Conclusion: Summarizes the research, noting that while sector-indices offer some descriptive improvements, market efficiency is supported in the long term, and highlights the utility of advanced model extensions.
Keywords
Stock split, Event study, Market model, CDAX, Sector-indices, Signaling hypothesis, Trading-range hypothesis, Liquidity improvement, GARCH, Heteroscedasticity, Time-varying beta, Abnormal returns, German stock market, Financial econometrics, Market efficiency.
Frequently Asked Questions
What is the fundamental focus of this research paper?
The paper evaluates the use of sector-indices as an alternative to the CDAX in event studies for German stock splits and explores ways to improve the standard market model's efficiency.
Which theoretical frameworks regarding stock splits are discussed?
The paper covers the signaling hypothesis, the trading-range hypothesis, and the liquidity improvement theory, highlighting their validity in different international markets.
What is the primary objective of the study?
The goal is to determine if sector-indices provide a better fit for stock return data than the general market index and to identify methods for addressing weaknesses in the classical Fama-Fisher-Jensen-Roll market model.
Which scientific methodologies are utilized in the empirical analysis?
The research employs Ordinary Least Squares (OLS) regressions, the Standardized Residual Test, GARCH modeling for volatility, and AR(1)-processes for time-varying beta estimation.
What topics are covered in the main body of the paper?
The main body examines empirical results of abnormal returns, identifies the failure of constant beta and homoscedasticity assumptions, and tests GARCH and dynamic beta models.
Which keywords best characterize this work?
Key terms include stock split, event study, market model, GARCH-adjustment, sector-indices, and time-varying beta.
How did the author handle the potential non-constancy of beta?
The author compared betas across two sub-periods and suggested using an AR(1)-model to allow the beta to vary dynamically over time.
Why are sector-indices proposed as a potential improvement over the CDAX?
The author posits that firms within the same sector share higher dependencies than companies across the entire economy, potentially leading to more accurate return descriptions.
Does the paper confirm market efficiency for German stock splits?
The study finds that over the long term, the efficient market hypothesis cannot be rejected; however, short-term patterns of positive and negative abnormal returns were observed around the event date.
- Quote paper
- David Bosch (Author), 2009, A stock split event study using sector-indices vs. CDAX and some extensions of the standard market model, Munich, GRIN Verlag, https://www.hausarbeiten.de/document/176261
