13 event studies - WHAT PRACTITIONERS NEED TO KNOW . About...

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WHAT PRACTITIONERS NEED TO KNOW .. About Event Studies Mark P. Kritzman Event studies measure the relationship between an event that affects securities and the return of those securities. Some events, such as a regulatory change or an economic shock, affect many securi- ties contemporaneously; other events, such as a change in dividend policy or a stock split, are specific to individual securities. Event studies are often used to test the effi- cient market hypothesis. For example, abnormal returns that persist after an event occurs or abnor- mal returns that are associated with an anticipated event contradict the efficient market hypothesis. Aside from tests of market efficiency, event studies are valuable in gauging the magnitude of an event's impact. A classic event study published in 1969 by Fama, Fisher, Jensen, and Roll examined the im- pact of stock splits on security prices.^ The authors found that abnormal returns dissipated rapidly following the news of stock splits, thus lending support to the efficient market hypothesis. How to Perform An Event Study in Seven Easy Steps The following steps describe one of several approaches for conducting an event study of a firm-specific event: Define the event and identify the timing of its occurrence. The timing of the event is not necessar- ily the period during which the event occurs. Rather, it may be the investment period imnnedi- ately preceding the announcement of the event. Arrange the security performance data relative to the timing of the event. If information about the event is released fully on a specific day with time remaining for traders to react, the day of the announcement is period zero. Then, measurement periods preceding and following the event are selected. For example, if the 90 trading days pre- ceding the event and the 10 days following the event are designated as the pre- and post-event periods, the pre-event trading days would be la- Mark P. Kritzman, CFA. is a Partner of Windham Capital Manage- ment in Cambridge, Massachusetts. beled f - 90, f - 89, f - 88, . . . , f - 1; the event day, t = 0; and the post-event trading days, t + I, t + 2r t + 3, . . . , t + 10. Because the event is specific to each security, these days will differ across securities in calendar time, Separate the security-specific component of re- turn from the security's total return during the pre- event measurement period. One approach is to use the market model to isolate security-specific re- turn. First, each security's daily returns during the pre-event measurement period from t - 90 through t — 1 are regressed on the market's returns during the same period. The security- specific returns are defined as the differences be- tween the security's daily returns and the daily returns predicted from the regression equation (the security's alpha plus its beta times the mar- ket's daily returns). This calculation is described by Equation 1: where Ay f = security-specific return of security i in
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This note was uploaded on 08/13/2010 for the course FINS 2624 R taught by Professor Yippie during the Three '10 term at University of New South Wales.

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13 event studies - WHAT PRACTITIONERS NEED TO KNOW . About...

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