Do bank stock prices efficiently reflect the information content in a key tax reform event?

This study examines the behavior of bank stock prices in Jordan in relation to a significant tax reform event. We analyze a sample of all banks listed on the Amman Stock Exchange to study the market response to the Amended Income Tax Law 2018. In the proposal period, investors were anticipating a mandatory tax increase of 5%, though the enacted law differed from expectations by implementing only a temporary, slight tax increase of 3%. Our findings reveal that there are higher stock returns observed during the post-approval period of the Amended Income Tax Law 2018 compared to the pre-approval period. This holds for both individual stocks and portfolios, indicating a positive market response to the tax reform. This paper contributes to the existing body of literature that examines pricing anomalies. The findings of this study indicate that when a tax bill is passed with a corporate tax rate lower than the proposed level, it creates a positive earnings surprise. However, the market displays inefficiency in promptly revising its expectations, resulting in a delay in the stock return pattern. This suggests that there is a discrepancy between the market's reaction as implied by the efficient market hypothesis and the actual impact of the tax reform on bank stock prices. This study investigates the impact of a significant tax reform event on the behavior of bank stock prices in Jordan. Using event study methodology, the research examines whether the market responds rationally to the earnings news related to the establishment of the National Solidarity Account, comprising 3% of banks' taxable income under the enacted Amended Income Tax Law 2018, compared to a higher increase of 5% of banks' taxable income proposed during the pre-approval period of the tax law. The findings suggest that tax laws influence financial markets and affect stock prices, as stock investors extrapolate their prior negative expectations into the future making it possible to trade based on this macroeconomic event. Investor sentiment, limited attention capacity, overconfidence, and anchoring bias could lead investors to react irrationally to actual statistics on the release date by taking prior forecasts at face value. The study has important implications for academics, practitioners and policymakers.