Stock Returns Following Large One-Day Declines: Further Evidence on the Liquidity Explanation from a Small, Developed Market

27 Pages Posted: 29 Jan 2004

See all articles by Clive Gaunt

Clive Gaunt

University of Queensland - Business School

Jane Nguyen

University of Queensland

Abstract

Cox and Peterson (1994) find that market liquidity may explain, to some extent, the tendency for return reversal following large single day declines. This is evidenced by stronger reversals for: stocks in less liquid markets (ie. AMEX vs NYSE); smaller stocks; and time periods when the market was less liquid. This suggests that small, relatively illiquid markets such as that which operates in Australia should experience relatively stronger return reversals than that observed in U.S. markets. This study examines the short-term price behaviour of Australian stocks following large one day declines to assess support for the liquidity explanation of return reversal. The lack of prior Australian research on short-run return reversals also justifies this study. Consistent with U.S. research we document a statistically significant reversal over the three days following a large price decline. However, this reversal does not appear to be economically significant (exploitable) and is explained to some extent by market microstructure. The magnitude of these reversals is significantly less than that reported by Cox and Peterson offering no support to their thesis that illiquidity is a key driver of return reversal. However, we confirm some other studies that have documented a puzzling pre-event series of significant positive abnormal returns. We also examine an extended post event period and document significant, sustained under-performance which requires further investigation. EFM codes: 350 Data used in this study was provided by SIRCA from their Confidential Database and their Core Research Data. The authors wish to acknowledge the generous support of SIRCA in the completion of this study.

Suggested Citation

Gaunt, Clive and Nguyen, Jane, Stock Returns Following Large One-Day Declines: Further Evidence on the Liquidity Explanation from a Small, Developed Market. Available at SSRN: https://ssrn.com/abstract=495244 or http://dx.doi.org/10.2139/ssrn.495244

Clive Gaunt

University of Queensland - Business School ( email )

Brisbane, Queensland 4072
Australia

Jane Nguyen

University of Queensland

St Lucia
Brisbane, Queensland 4072
Australia

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