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Stock Price Response to News of Securities Fraud Litigation:
Market Efficiency and the Slow Diffusion of Costly Information

59 Pages Posted: 6 Dec 2000  

Paul A. Griffin

University of California, Davis - Graduate School of Management; University of California, Davis

Joseph Grundfest

Stanford University Law School

Michael A. Perino

St. John's University School of Law

Date Written: November 2000

Abstract

This study distinguishes between announcements that precipitate federal class action securities fraud litigation, such as earnings surprises and restatements, and the later announcement that an issuer has been named as a defendant in such a lawsuit. The study documents a statistically significant negative short-term price response to the litigation announcement as well as a negative response that persists for several weeks subsequent to the litigation announcement.

The response over shorter and longer horizons is more pronounced for smaller firms and for firms with less analyst coverage. Also, passage of the Private Securities Litigation Reform Act of 1995 reduced the cost of obtaining information about the initiation of these lawsuits and is correlated with a more rapid price response, particularly among smaller issuers and those with less analyst coverage.

Although these findings are hardly dispositive of the debate, they present a case study of a price pattern that is far more consistent with a costly-information explanation of stock market price formation than with any behavioral model of which we are aware. These findings also suggest that careful examination of market microstructure and information cost considerations can usefully explain patterns that might otherwise seem inconsistent with the efficient market hypothesis.


Keywords: Securities class action litigation, stock market response, economic impact, Securities Law Reform, efficient market hypothesis

JEL Classification: G14, K22, K41

Suggested Citation

Griffin, Paul A. and Grundfest, Joseph and Perino, Michael A., Stock Price Response to News of Securities Fraud Litigation: Market Efficiency and the Slow Diffusion of Costly Information (November 2000). Stanford Law and Economics Olin Working Paper No. 208. Available at SSRN: https://ssrn.com/abstract=251766 or http://dx.doi.org/10.2139/ssrn.251766

Paul A. Griffin

University of California, Davis - Graduate School of Management ( email )

3102 Gallahger Hall
Davis, CA 95616
United States
(530) 752-7372 (Phone)
(425) 799-4143 (Fax)

HOME PAGE: http://www.gsm.ucdavis.edu/griffin/

University of California, Davis ( email )

3102 Gallahger Hall
Davis, CA 95616
United States
(530) 752-7372 (Phone)
(425) 799-4143 (Fax)

HOME PAGE: http://www.gsm.ucdavis.edu/griffin/

Joseph A. Grundfest (Contact Author)

Stanford University Law School ( email )

559 Nathan Abbott Way
Stanford, CA 94305-8610
United States
650-723-0458 (Phone)
650-723-8229 (Fax)

Michael A. Perino

St. John's University School of Law ( email )

8000 Utopia Parkway
Jamaica, NY 11439
United States
718-990-1928 (Phone)
718-591-1855 (Fax)

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