Do stocks added to a stock index outperform those they replace? : evidence from changes to the French CAC 40 index between 1993 and 2009
Dromacque, Christophe (2012)
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This study examines whether stocks deleted from the CAC 40 Parisian blue-chip index between 1993 and 2009 outperformed stocks added to the index. Two approaches are followed to answer this question. First, two portfolios are formed, one consisting of all stocks added to the index and one consisting of all stock deleted from the index between 1993 and 2009. The substituted stocks are added to their respective portfolios 10 days after the announcement is made. Daily returns and daily adjusted returns are calculated. The results show that the deleted stock portfolio outperformed both the added stock portfolio and the market by 0.013% and 0.012% respectively per day. Risk adjusted performance ratios indicate that the higher return is not merely a compensation for higher risk. Nevertheless, it appears that the results cannot be generalised perhaps due to too small a sample. The second approach looks at the added and deleted stocks' average performance at different intervals after announcement of their addition to or removal from the CAC 40 is made. The results indicate that deleted stocks outperformed added stocks over the first five years after substitution. Deleted stocks showed an average increase in value of 4.1% compared to an average loss of 2.69% for added stocks one year after replacement was announced. After five years, deleted stocks' value increased on average by 53.5% while added stocks increased on average by 35.9%. Theoretically, the well researched phenomenon of regression towards the mean in stock prices as well as biased index rules may explain these results.