Is There Really Excess Comovement? Causal Evidence from FTSE 100 Index Turnover
50 Pages Posted: 26 Apr 2014 Last revised: 9 Dec 2014
Date Written: November 2014
Stock returns appear to comove in excess of common news about stock fundamentals. I examine comovement when stocks are added to or deleted from the FTSE 100 stock index, which are events without news about fundamantals. Using a natural experiment created by FTSE’s index balancing rule, I find that random index turnover has no significant effect on comovement. Furthermore, non-random index turnover can introduce a selection bias that overstates the effect on comovement. Index turnover does not cause a change in comovement, but much rather it seems to be the reverse: a change in comovement can cause index turnover. My findings are consistent with the fundamentals-based hypothesis; rejections in the previous literature may be due to non-random index turnover.
Keywords: Comovement, index turnover, market frictions, limits to arbitrage
JEL Classification: G10, G14, G15
Suggested Citation: Suggested Citation