Float manipulation and stock prices

Description

"I show that firms can manipulate their stock price by restricting the ability of investors to sell. In Japan, new shares created from a stock split are not distributed to investors until the pay-date, several weeks after the ex-date. During this time, investors can trade their old shares but not their forward claims on the new ones. In a simple model, I show that when investors disagree about the economic implications of a split, a high split ratio tightens short sale constraints, pushing up prices. When the shares are distributed, the constraint is relieved and prices fall. The theory explains why (a) the average abnormal return associated with a split in Japan has grown to over 30%, (b) split ratios have risen from an average of 1.15-for-1 to over 10-for-1 between 1995 and 2005, (c) significantly negative (positive) ex-date returns (pay-date returns) are positively (negatively) related to the split ratio, a measure of the float reduction. Taken together, the results suggest that firms may actively attempt to restrict the float when differences of opinion are high."

Description

Firms can manipulate their stock price by restricting the tradable float. When risk averse investors have differences of opinion and are short-sale constrained, reductions in the float freeze out pessimistic investors, pushing up prices. When the float is released, prices fall. To formally test this idea, I examine a series of corporate events in Japan in which firms actively reduced their float between 0.1 and 99.9 percent for periods of one to three months. Consistent with the theory, (a) prices rise when the float is contracted and fall when the float is released, and (b) returns are cross-sectionally related to the reduction in float. Firms are more likely to issue equity or redeem convertible debt during the period when float is low, suggesting strong incentives for manipulation. More generally, the results may explain why several pricing anomalies are associated with low float.

Subjects

Series Statement

• Working paper / Division of Research, Harvard Business School -- 05-079

Other Editions

• Float manipulation and stock pricesDivision of Research, Harvard Business School2005-01-01
• Float manipulation and stock pricesDivision of Research, Harvard Business School2006