Academic journal article IUP Journal of Applied Finance

Market Reaction to Bonus Issues and Stock Splits in India: An Empirical Study

Academic journal article IUP Journal of Applied Finance

Market Reaction to Bonus Issues and Stock Splits in India: An Empirical Study

Article excerpt

(ProQuest: ... denotes formulae omitted.)


Efficient Market Hypothesis (EMH) signifies that all appropriate information is quickly and fully assimilated in a security's market price, thereby guessing that an investor will obtain an equilibrium rate of return. In other words, an investor in the market should not anticipate an abnormal return. However, random walk theorists generally start with the premise that the major security exchanges are good instances of efficient markets. A market where consecutive price changes in individual securities are independent is, by definition, called a random walk market (Fama, 1965). The random walk theory affirms that all information is replicated in the current stock prices. Thus, any new information would also take little time to be completely incorporated in the prices, and the market players, thus, would have little time to exploit this new information to realize above normal profits.

Fama (1970) recognized three forms of market efficiency explicitly: the weak, semi-strong and strong. Weak form of market efficiency says that current stock prices fully reflect all the past information. Any attempt to forecast prices based on historical prices or information is completely futile, as the prices follow random walk process. Semi-strong form expands the idea of efficiency a little further and describes that current stock prices replicate all the publicly available information. Prices adjust very quickly to such information, so the above normal returns cannot be earned on a consistent basis. The strong form is a situation where all the pertinent information, whether it is within the public domain or private domain, will be reflected in the stock market price.

By explaining the event studies, one can measure how quickly stock prices respond to different pieces of news, such as corporate earnings or dividend announcement, news of a merger and takeover, or macroeconomic news. The aim of this paper is to observe the stock price reaction to announcement of bonus issues and stock splits, and thereby examine if Indian stock market is efficient in its semi-strong form or not. Over the past half century, event studies have been employed in many research studies across the globe and their superiority has been greatly improved by Dolley (1933), Fama et al. (1969), Brown and Warner (1985) and Gupta (2008).

Indian Equity Market

Many stock market studies have raised concerns over market efficiency hypothesis; but a majority of them focused on mature markets such as the New York Stock Exchange and London Stock Exchange (Schwert, 2002; and Bris et al., 2004). The present study tries to examine market efficiency of an emerging stock market like India. The Indian equity market has been portrayed as an emerging market (Mahfuzul et al., 2004; Raju and Ghosh, 2004; and Yartey, 2008). There are two major markets in India, viz., National Stock Exchange (NSE) and the Bombay Stock Exchange (BSE). The benchmark indices in these two exchanges are Nifty (50 stocks) and Sensex (30 stocks), respectively. In both these stock exchanges, trading is being carried on in a dematerialized form. However, there are about 22 stock exchanges in India which regulate the market trends of different stocks in the economy. Securities and Exchange Board of India (SEBI) is the regulatory authority and it controls the functioning of all the stock markets in India.

With the liberalization of Indian economy in the early 1990s, it was inescapable to boost the Indian stock market trading system on parity with the international standards. In the past few years, with the help of online stock trading facility, it has become extremely convenient for investors to trade in Indian stock markets. Hence, over the years, Indian equity market has become a lucrative destination for both domestic and foreign investors. Foreign investment in general enjoys a mainstream share in the Indian equity market. In this growing market environment, several studies have been conducted on the efficiency of Indian stock markets. …

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