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Index membership and predictability of stock returns: The case of the Nikkei 225

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  • Liu, Shinhua

Abstract

When stocks are added to (deleted from) an index, more (less) information should be generated and incorporated into their prices, leading to higher (lower) pricing efficiency and lower (higher) return predictability for them. We test this hypothesis for the first time using membership changes in the Nikkei 225. Employing two alternative tests, we document that the return series become more (less) random and, thus, less (more) predictable for stocks added (deleted). We further find that these changes are related to changes in the information environment for the stocks involved, supporting the hypothesis. These findings should be of interest to portfolio managers.

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  • Liu, Shinhua, 2009. "Index membership and predictability of stock returns: The case of the Nikkei 225," Pacific-Basin Finance Journal, Elsevier, vol. 17(3), pages 338-351, June.
    • Handle: RePEc:eee:pacfin:v:17:y:2009:i:3:p:338-351
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    Cited by:

    1. Afego, Pyemo N., 2017. "Effects of changes in stock index compositions: A literature survey," International Review of Financial Analysis, Elsevier, vol. 52(C), pages 228-239.
    2. Daya, Wael & Mazouz, Khelifa & Freeman, Mark, 2012. "Information efficiency changes following FTSE 100 index revisions," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 22(4), pages 1054-1069.
    3. Gygax, André F. & Otchere, Isaac, 2010. "Index composition changes and the cost of incumbency," Journal of Banking & Finance, Elsevier, vol. 34(10), pages 2500-2509, October.

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