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What’s in the news? The ambiguity of the information content of index reconstitutions in Germany

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  • Houdou Basse Mama

    (ESCP Europe Business School)

  • Stefan Mueller

    (ESCP Europe Business School)

  • Ulrich Pape

    (ESCP Europe Business School)

Abstract

We analyze stock price behavior around reconstitutions of the German DAX index family from 1990 to 2013. The strong price run-up of added stocks in the 2 months preceding the announcement date remains robust until 2 months after the effective date (ED), and is fully reversed 5 months later. Conversely, stock prices of deleted firms are under pressure until 10 months after the ED. Unlike most previous studies, we find that outright entries and exits have temporary price effects, as do additions to and deletions from better-known indices; however, promotions and demotions related to lesser-known indices command permanent stock price responses. Rather surprisingly, deleted stocks consistently earn higher abnormal returns than added stocks in the 5-year post-event period. Specifically, the return differential levels out at 77.3%. We establish that this differential in permanent stock prices is attributable to differences in operating performance and media coverage. In practice, index reconstitutions do not appear to give unambiguous signals about the long-run investment appeal of affected firms. However, index fund managers not constrained by tracking error minimization would be better off holding deleted stocks for 5 years after the ED.

Suggested Citation

  • Houdou Basse Mama & Stefan Mueller & Ulrich Pape, 2017. "What’s in the news? The ambiguity of the information content of index reconstitutions in Germany," Review of Quantitative Finance and Accounting, Springer, vol. 49(4), pages 1087-1119, November.
    • Handle: RePEc:kap:rqfnac:v:49:y:2017:i:4:d:10.1007_s11156-017-0617-1
    DOI: 10.1007/s11156-017-0617-1
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    More about this item

    Keywords

    DAX index family; Index reconstitutions; Long-run performance; Operating performance;
    All these keywords.

    JEL classification:

    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading

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