Event Study Testing with Cross-Sectional Correlation of Abnormal Returns

Abstract

This article examines the issue of cross-sectional correlation in event studies. When there is event-date clustering, we find that even relatively low cross-correlation among abnormal returns is serious in terms of over-rejecting the null hypothesis of zero average abnormal returns.We propose a new test statistic that modifies the t-statistic of Boehmer, Musumeci, and Poulsen (1991) to take into account cross-correlation and show that it performs well in competition with others, including the portfolio approach, which is less powerful than other alternatives under study. Also, our statistic is readily use-able to test multiple-day cumulative abnormal returns.

Keywords: event studies, cross-correlation, abnormal returns, event-date clustering

JEL Classification: G14, C10, C15