New Evidence on Stock Price Effects Associated with Changes in the S&P 500 Index

Since October 1989, Standard and Poor's has (when possible) announced changes in the composition of the Samp;P 500 index one week in advance, rather than on the change day as was their previous policy. To minimize their tracking error, index funds buy stocks added to the Samp;P 500 index and sell stocks deleted. Consequently, index composition changes after October 1989 create anticipated permanent shifts in demand for the added and deleted stocks. This paper examines the market's reaction to these shifts. Previous studies of demand shifts use either block trades (which are not permanent shifts) or pre-October 1989 index composition changes, neither of which are publicly announced in advance. For post-October 1989 index changes, we find positive (negative) abnormal returns on the addition (deletion) announcement day and in the period after the announcement day but prior to the change day. The post announcement day abnormal returns are only partially reversed following the change. These results indicate temporary price pressure and downward-sloping long-run demand curves for stocks and are inconsistent with semi-strong form market efficiency. We also report trading volume but do not find a positive relation across event days between volume and abnormal return magnitude. In particular, while the largest abnormal return occurs on the announcement day, volume on the day before the change is substantially higher than any other day