The Market Reaction to Stock Splits

In this paper, a model of market reaction to stock splits is presented and tested. The auth ors argue that the announcement of a split sets off the following cha in of events: the market recognizes that subsequent to the (reverse) split ex-day, the daily number of transactions along with the raw vol ume of shares traded will increase (decrease); this increase in volum e results in an increase in the noisiness of the security's return pr ocess; the increase in noise raises the tax-option value of the stock -and it is this value that generates the announcement effect of stock splits. Copyright 1987 by American Finance Association.

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