Stock Splits and Return Volatility

By Aggarwal, Reena; Son-Nan, Chen | Akron Business and Economic Review, Fall 1989 | Go to article overview

Stock Splits and Return Volatility

Aggarwal, Reena, Son-Nan, Chen, Akron Business and Economic Review

Stock Splits And Return Volatility

A stock split by itself is merely an accounting change with no change in firm value. It does not alter the total market value of shareholders' wealth; hence, there should be no effect on stock returns or return variances. In theory, stock returns and return volatility in the pre- and post-split proposal period should not be different. In an efficient market, prices fully and instantaneously reflect all available relevant information. However, in practice, the adjustment process cannot be completed instantaneously.

The purpose of this paper is to examine the adjustment of stock returns to stock split proposals. The adjustment process to the release of new information is examined using daily return data. The objective is first to determine the beginning and ending time of the adjustment process due to a stock split proposal. The difference between the ending time and the beginning time provides an estimate of the total time. In addition, the adjustment process is grouped by contaminated versus non-contaminated announcements, firm size, and change in dividends after the split announcement.

In general, larger firms are closely followed by a large number of investors, security analysts, and the financial press. Hence, publicly available information is more rapidly available about them, and this should result in a more rapid adjustment than for smaller firms [4]. A stock split proposal effect may actually be the result of expected cash dividend increases after the split. Therefore, we divide our sample into three groups of dividend increase, dividend decrease, and no change in dividend. The dividend decrease group should react to the negative information quickly and the adjustment process for this group should be the fastest. We empirically examine these issues and provide some answers.

Previous studies, e.g., [1,3], on stock splits did not analyze the effect of potential contamination by other information releases on return at the split announcement dates. We find, for our sample, over 85% of the announcements had some other significant simultaneous announcement. In addition, some of the previous empirical techniques used in event studies have come under criticism. We employ daily return data and do not rely on these previous empirical models in our study. Using a different methodology, we are able to show how return and volatility of securities change around the announcement time of stock splits.


Studies examining the return adjustment process are very limited in number. Patell and Wolfson [9] examine the effects of earnings and dividend announcements on intraday stock price behavior. Two types of analysis are conducted to detect any systematic influences of the announcements on stock prices. First, the stochastic process tests compare the time series properties of consecutive price changes during disclosure and nondisclosure periods. Next, the increased variability of stock price changes was determined. Their results indicate that the major adjustment occurs within fifteen minutes of an earnings release. It takes essentially the entire trading day to "absorb" an earnings announcement. Large variance increases persist for up to four hours after the disclosure and smaller but significant variance increases continue into the following day. Dividend announcements did not induce large increases in variance, but significant disturbances occurred at the announcement of dividend changes.

A recent study by Grinblatt, Masulis, and Titman [4] examines the impact of both stock split and stock dividend announcements. The results indicate significantly positive announcement returns on day 0 and day 1 for the entire sample, for a sample of "pure" events that have no other announcements in the three-day period around the announcement day, and for a sample where no cash dividends were declared in the previous three years. …

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