TOPIX Revisions and Stock Returns: Evidence for Phased Exclusions

This paper examines the impact of phased exclusions from the Tokyo Stock Price Index (TOPIX), introduced by the Tokyo Stock Exchange to gradually remove firms with extremely small free-float market capitalization. Using event study methodology, we analyse the market reactions to ten sequential index weight reductions implemented between 2022 and 2025. Our findings show that excluded firms experienced consistently negative abnormal returns, especially among the smallest and least liquid stocks. While previous research has documented stock price declines upon index exclusion, this study highlights that even under a phased exclusion system, the negative impact remains strong. Notably, the excluded firms in our sample are typically overlooked by analysts and investors, yet they still experienced substantial adverse effects. These results demonstrate that mechanical rebalancing by passive funds imposes significant costs on excluded firms, even though the overall effect on the index is minimal. Our findings carry policy implications for Asian equity markets, where major indices are also constructed from all listed stocks. If similar reforms were implemented in those markets, the same pattern of concentrated negative effects on individual stocks might be observed.