Switching Volatility in Target Stocks During Takeover Bids
32 Pages Posted: 13 Feb 2007
Date Written: January 10, 2007
This paper examines movements in the conditional volatility of stock prices of takeover targets. Based on a continuous-time modelling framework, we provide theoretical justification for modelling the data-generating process of the target stock price as subject to volatility regime-switching. Using daily stock prices of five European and American targets, we find that adequately specified Markov-switching GARCH models are capable of detecting statistically significant volatility regime-switches in all takeover deal-types (in cash bids, pure share-exchange bids, mixed bids). Overall, volatility regime-switches are found to be most clear-cut for cash bids. Our econometric findings have implications for a broad range of financial applications such as the valuation of target stock options.
Keywords: Takeover bids, stock price dynamics, volatility regime-switching models
JEL Classification: C32, C52, G12, G14, G34
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