Index changes (FTSE indices) – paper review

Every quarter the constituents of the FTSE 100 Index are reviewed, some companies may be removed to be replaced by others. An effect has been observed whereby companies joining the FTSE 100 Index experience a positive and permanent impact on their share prices.

This article presents a brief review and listing of academic papers on changes made to FTSE indices.

Traders are interested in changes to equity indices due to the potential arbitrage profits; but academics have a wider interest because for them changes to indices act as something like a laboratory for testing theories of stock market efficiency and behavioural finance. Briefly, when a stock joins (or leaves) an index, nothing changes to the company itself and so (in an efficient market) there should be no change to the share price. Academics therefore get excited (the term is used here relatively loosely) when this is not the case.


Kougoulis and Coakley (2004) found that shares joining the FTSE 100 Index experienced an increase in comovement (price movement correlation with other shares); shares leaving the index experienced the opposite effect. Mase (2008) supported the previous findings and in addition found that increases in comovement had become larger in recent years, and that the overall increase in comovement was due to new additions to the index rather than previous FTSE 100 constituents re-joining the index.

Price pressures

Another favourite of academics. If a share price moves without new information is the move temporary (price pressure hypothesis) or permanent (imperfect substitutes hypothesis)? Mazouz and Saadouni (2007) found strong evidence for the price pressure hypothesis: prices increased (decreased) gradually starting before the index change announcement date of inclusion (exclusion) and then reversed completely in less than two weeks after the index change date. The existence of the temporary price changes (price pressure hypothesis) was also found by Opong and Antonios Siganos (2013) and Biktimirov and Li (2014). Interestingly, Mase (2007) comments that the temporary prices changes to shares joining/leaving the FTSE 100 Index is in contrast to the case for S&P 500 index changes where permanent price changes have been found.

Information efficiency

Daya and Mazouz and Freeman (2012) (and other papers) found that informational efficiency improved for stocks added to the FTSE 100, but did not diminish after deletion.

Now, onto the more useful topics.

Price changes

Gregoriou and Ioannidis (2006) found that price and trading volumes of newly listed firms increased. That confirms what we already knew or suspected. But, interestingly, they (and other papers here) attribute the cause to information efficiency: stocks with more available information increase investor awareness. However, Mase (2007) does say that investor awareness and monitoring due to index membership do not explain the price effects. But not mentioned here is the influence of index funds.

And, finally, the interesting stuff.

Anticipatory trading

Fernandes and Mergulhao (2011) found that a trading strategy based on addition/deletion probability estimates gave an average daily excess return of 11 basis points over the FTSE 100 index. Opong and Siganos (2013) found “significant net profitability” from an investment strategy based on firms on the FTSE reserved list. And a strategy based on the FTSE 100 quarterly revisions was profitable if CFDs were used and traders could deal within the bid/ask spread.

INDEX (of papers listed below)

[Papers listed in reverse date order; indicates major paper.]

  1. Asymmetric stock price and liquidity responses to changes in the FTSE SmallCap index [2014]
  2. Compositional changes in the FTSE 100 index from the standpoint of an arbitrageur [2013]
  3. Information efficiency changes following FTSE 100 index revisions [2012]
  4. Anticipatory Effects in the FTSE 100 Index Revisions [2011]
  5. Comovement in the FTSE 100 Index [2008]
  6. The Impact of Changes in the FTSE 100 Index [2007]
  7. The price effects of FTSE 100 index revision: what drives the long-term abnormal return reversal? [2007]
  8. New evidence on the price and liquidity effects of the FTSE 100 index revisions [2007]
  9. Investor awareness and the long-term impact of FTSE 100 index redefinitions [2006]
  10. Information costs and liquidity effects from changes in the FTSE 100 list [2006]
  11. Comovement and Changes to the FTSE 100 Index [2004]

Asymmetric stock price and liquidity responses to changes in the FTSE SmallCap index
Authors [Year]: Ernest N. Biktimirov and Boya Li [2014]
Journal [Citations]: Review of Quantitative Finance and Accounting, 42(1), pp95-122
Abstract: We examine market reactions to changes in the FTSE SmallCap index membership, which are determined quarterly based on market capitalization and are free of information effects. Our main results are asymmetric price and liquidity responses between the firms that are shifted between FTSE indexes and the firms that are new to FTSE indexes. Firms promoted from a smaller-cap to a larger-cap FTSE index experience a permanent increase in stock price accompanied by improvements in liquidity. Similarly, firms demoted from a larger-cap to a smaller-cap FTSE index experience a permanent decrease in stock price accompanied by declines in liquidity. In contrast, firms added to the FTSE SmallCap index that were not previously in FTSE indexes show a transitory price gain and declines in liquidity. The results support the liquidity and price pressure hypotheses.
Ref: AA704

Continue reading

Social Share Toolbar