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Stock splits, trading continuity, and the cost of equity capital

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  • Lin, Ji-Chai
  • Singh, Ajai K.
  • Yu, Wen
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    Abstract

    We hypothesize that managers use stock splits to attract more uninformed trading so that market makers can provide liquidity services at lower costs, thereby increasing investors' trading propensity and improving liquidity. We examine a large sample of stock splits and find that, consistent with our hypothesis, the incidence of no trading decreases and liquidity risk is lower following splits, implying a decline in latent trading costs and a reduced cost of equity capital. Further, split announcement returns are correlated with the improvements in both liquidity levels and liquidity risk. Our analysis suggests nontrivial economic benefits from liquidity improvements, with less liquid firms benefiting more from stock splits.

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    Bibliographic Info

    Article provided by Elsevier in its journal Journal of Financial Economics.

    Volume (Year): 93 (2009)
    Issue (Month): 3 (September)
    Pages: 474-489

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    Handle: RePEc:eee:jfinec:v:93:y:2009:i:3:p:474-489

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    Web page: http://www.elsevier.com/locate/inca/505576

    Related research

    Keywords: Stock splits Trading continuity Liquidity risk Cost of equity capital;

    References

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    Cited by:
    1. Al-Yahyaee, Khamis Hamed, 2014. "Shareholder wealth effects of stock dividends in a unique environment," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 28(C), pages 66-81.
    2. Lin, Ji-Chai & Singh, Ajai K. & Sun, Ping-Wen (Steven) & Yu, Wen, 2014. "Price delay premium and liquidity risk," Journal of Financial Markets, Elsevier, vol. 17(C), pages 150-173.
    3. Lin, Ji-Chai & Stephens, Clifford P. & Wu, YiLin, 2014. "Limited attention, share repurchases, and takeover risk," Journal of Banking & Finance, Elsevier, vol. 42(C), pages 283-301.
    4. Chen, Honghui & Nguyen, Hoang Huy & Singal, Vijay, 2011. "The information content of stock splits," Journal of Banking & Finance, Elsevier, vol. 35(9), pages 2454-2467, September.

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