Differences of Opinion and Stock Price Reaction in the Case of Corporate Spin-off Announcements
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This study analyzes the effect of changes in the level of differences of opinion (DO) associated with the public disclosure of spinoff divesture on stock prices. The framework for the empirical analysis is the application of a dynamic DO model of Banerjee and Kremer (2010) to Miller (1977)’s DO model. From this framework, we derive three testable hypotheses, specifically, focusing on the effects of a change in the level of DO from the ex-ante level to the event level caused by the announcements of corporate spinoff engaged and completed by firms in the U.S from 1964 to 2005. We show that the announcements spark sudden and sharp increases in the level of DO. These increases or the disagreement shocks are positively correlated with the abnormal returns generated by the announcements. Furthermore, firms with low ex-ante levels of DO—the mean degree of disagreement among investors about a firm value in a normal trading day—tend to generate greater disagreement shocks. The implication of this negative correlation between the ex-ante level of DO and the disagreement shock is that there should be also a negative relationship between the ex-ante level of DO and the abnormal return. We confirm this relationship. Therefore, the ex-ante level of DO as a firm trait defined by investors’ behavioral characteristic can be a significant determinant for the well-known wealth effect or the on-average positive abnormal return gained by corporate spinoffs.
Abstract
This study analyzes the effect of changes in the level of differences of opinion (DO) associated with the public disclosure of spinoff divesture on stock prices. The framework for the empirical analysis is the application of a dynamic DO model of Banerjee and Kremer (2010) to Miller (1977)’s DO model. From this framework, we derive three testable hypotheses, specifically, focusing on the effects of a change in the level of DO from the ex-ante level to the event level caused by the announcements of corporate spinoff engaged and completed by firms in the U.S from 1964 to 2005. We show that the announcements spark sudden and sharp increases in the level of DO. These increases or the disagreement shocks are positively correlated with the abnormal returns generated by the announcements. Furthermore, firms with low ex-ante levels of DO—the mean degree of disagreement among investors about a firm value in a normal trading day—tend to generate greater disagreement shocks. The implication of this negative correlation between the ex-ante level of DO and the disagreement shock is that there should be also a negative relationship between the ex-ante level of DO and the abnormal return. We confirm this relationship. Therefore, the ex-ante level of DO as a firm trait defined by investors’ behavioral characteristic can be a significant determinant for the well-known wealth effect or the on-average positive abnormal return gained by corporate spinoffs.
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