Event Studies

Question 1

What is an event study?

Answer 1

A method to assess changes in stock or bond prices around specific events.

Question 2

Give examples of events analyzed in event studies.

Answer 2

Earnings announcements, mergers, macroeconomic news, natural disasters, and bond auctions.

Question 3

What are the two main goals of event studies?

Answer 3

To analyze the impact of events on security holder wealth and to test market efficiency.

Question 4

Why is the announcement of an event often more important than the event itself?

Answer 4

Because market reactions typically occur when new information is first disclosed.

Question 5

What does the Efficient Market Hypothesis (EMH) state?

Answer 5

Prices fully reflect all available relevant information.

Question 6

What triggers price changes in an efficient market?

Answer 6

The arrival of new information.

Question 7

Why are price changes unpredictable in an efficient market?

Answer 7

Because new information cannot be predicted in advance.

Question 8

What are the three forms of EMH?

Answer 8

Weak form, semi-strong form and strong form.

Question 9

What information is reflected in prices under the weak form of EMH?

Answer 9

All past price and volume data.

Question 10

What additional information is reflected in prices under the semi-strong form of EMH?

Answer 10

All publicly available information.

Question 11

What does the strong form of EMH imply about price efficiency?

Answer 11

Prices reflect all public and private information, including insider knowledge.

Question 12

What is the first step in an event study?

Answer 12

Identify the event of interest and its timing.

Question 13

What is a benchmark model in event studies?

Answer 13

A model used to calculate normal returns for comparison with actual returns.

Question 14

What is the formula for abnormal returns (AR)?

Answer 14

Abnormal Return = Return - Normal Return

Question 15

What is the difference between calendar time and event time?

Answer 15

Calendar time follows chronological order, while event time centers on the event date as t=0.

Question 16

Why is accurate timing important in event studies?

Answer 16

To ensure precise analysis of price movements around the event.

Question 17

Name three methods for calculating normal returns.

Answer 17

Mean-adjusted, market-adjusted, and market model methods.

Question 18

What is the CAPM formula for normal returns?

Answer 18

Normal Returns = RiskFreeRate + Beta ( Market Risk Premium - RiskFreeRate), where Beta is the stock’s sensitivity to the market.

Question 19

How are abnormal returns aggregated across events?

Answer 19

By calculating the Average Abnormal Return (AAR) and Cumulative Abnormal Return (CAR).

Question 20

What does the Cumulative Abnormal Return (CAR) represent?

Answer 20

The sum of abnormal returns over a specified period.

Question 21

What is the null hypothesis in most event studies?

Answer 21

That abnormal returns are zero (H0: E(AR) = 0).

Question 22

How is the significance of abnormal returns tested?

Answer 22

Using a t-statistic compared against standard normal critical values.

Question 23

What is the significance level for a 95% confidence interval?

Answer 23

5%, with critical values of ±1.96 for a two-tailed test.

Question 24

Why is a cross-sectional estimator often used?

Answer 24

To calculate variance using all events on a specific day.

Question 25

What is event-induced variance?

Answer 25

Increased variance in returns around the event date.

Question 26

What issue arises from event clustering?

Answer 26

Cross-sectional correlation between returns of multiple events occurring in the same period.

Question 27

How can event clustering be addressed?

Answer 27

By aggregating daily returns into a portfolio or adjusting standard errors.

Question 28

Why is non-normality of returns problematic?

Answer 28

It violates assumptions for t-tests and can skew results, especially in small samples.

Question 29

What is cross-sectional heteroskedasticity?

Answer 29

Variation in return volatility across firms, potentially causing outliers.

Question 30

What are long-horizon event studies used to analyze?

Answer 30

Long-term price reactions, such as IPO performance over several years.

Question 31

What is the Buy-and-Hold Abnormal Return (BHAR) method?

Answer 31

A measure of long-term performance by comparing the return of a portfolio to a benchmark over a holding period.

Question 32

How does the Calendar-Time Portfolio approach work?

Answer 32

It regresses portfolio excess returns on risk factors to measure performance over time.

Question 33

What is a common finding about IPO performance in long-horizon studies?

Answer 33

IPOs often underperform in the long run.

Question 34

What is the market timing hypothesis for IPO underperformance?

Answer 34

Managers issue shares when they are overvalued, leading to subsequent corrections.

Question 35

What is an example of an event study on stock recommendations?

Answer 35

Testing stock price reactions to expert recommendations on a Dutch TV show.

Question 36

What event did a recent ECB bond purchase study examine?

Answer 36

The impact of monthly bond purchases on German treasury bond prices.

Question 37

What is the CAR for a single firm over an event window?

Answer 37

The sum of its daily abnormal returns within the window.

Question 38

How do researchers control for survivorship bias in long-horizon studies?

Answer 38

By including delisted firms and correcting for sample selection effects.