Cross-Sectional Variation in Stock Price Reaction to Bond Rating Changes: Evidence from India (Empirical Results-2)

Analysis on the Basis of Firm Characteristics
Size Based Portfolios – The results on the basis of company size are listed in Panel A of Table 2. It can be seen that the size based portfolios exhibit different return behavior in case of upgrades. While signalling effect dominates in large size portfolio, small sized portfolio does not depict a significant impact after upgrades. However, in case of downgrades, both the large and small size portfolios show dominance of wealth redistribution effect. Thus, they show similar post – downgrade reaction.
Moreover, though theory suggests that small sized firms should respond more strongly to bond rating changes than large firms but the results obtained do not support this conjecture. This is due to the observation of strong post – event abnormal returns in case of large firms both after downgrades as well as upgrades. In case of downgrades, the large size firms demonstrate stronger response (CAAR = 0.064) than small size portfolio (CAAR = 0.039). In case of upgrades, CAAR is significant only in case of large sized firms.
It is also observed that large size firms show anticipation both in case of upgrades and downgrades as evident from the presence of significant pre – event abnormal returns. This anticipation may be because institutional investors have exposure in large companies and these companies are continuously monitored for any developments which may have a bearing on the future cash flows. Moreover, the impact of the news leading to a rating revision is not fully absorbed in the pre – event period and the effect continues after the rating change.
Small firm portfolio does not show anticipation in case of downgrades. The absence of significant returns in case of small companies indicates that there is no pre – emption. This is consistent with the expectations since small firms are expected to have lesser transparency and may be difficult to value and arbitrage. So credit ratings provide new information in their case.

Table 2. Results for Firm Characteristic – based Portfolios

Panel A: Results for Size – based Portfolios
Downgrades Upgrades
Pre – Event Post – Event Pre – Event Post – Event
Large Small Large Small Large Small Large Small
CAAR 0.029* 0.016 0.064* 0.039* 0.018* -0.053* 0.031* -0.006
SCAAR 2.299 2.097 6.198 3.804 2.983 -5.986 4.457 -0.494
Panel B: Results for Price to Book Value – based Portfolios
Downgrades Upgrades
Pre – Event Post – Event Pre – Event Post – Event
High Low High Low High Low High Low
CAAR -0.062* 0.040* -0.041 0.070* 0.021* -0.022* 0.017* 0.023*
SCAAR -3.270 5.535 -1.918 8.324 3.072 -3.093 2.248 2.536
Panel C: Results for Stock Liquidity – based Portfolios
Downgrades Upgrades
Pre – Event Post – Event Pre – Event Post – Event
High Low High Low High Low High Low
CAAR 0.028* 0.009 0.035* 0.080* -0.020* 0.018* -0.049* 0.070*
SCAAR 2.800 0.910 3.588 6.554 -2.652 2.430 -7.220 6.655
Panel D: Results for Leverage – based Portfolios
Downgrades Upgrades
Pre – Event Post – Event Pre – Event Post – Event
High Low High Low High Low High Low
CAAR 0.027* 0.004 0.081* 0.009 -0.020* 0.020* -0.041* 0.076*
SCAAR 2.825 0.325 7.474 0.622 -2.371 3.381 -4.987 7.897
Panel E: Results for Intangibles – based Portfolios
Downgrades Upgrades
Pre – Event Post – Event Pre – Event Post – Event
High Low High Low High Low High Low
CAAR -0.027* 0.074* 0.056* 0.048* 0.017* -0.007 0.071* -0.041*
SCAAR -2.813 5.468 4.880 3.606 2.597 -0.848 8.038 -5.141
Panel F: Results for Profitability – based Portfolios
Downgrades Upgrades
Pre – Event Post – Event Pre – Event Post – Event
High Low High Low High Low High Low
CAAR 0.010 0.021* -0.012 0.077* 0.004 0.013 -0.012 0.104*
SCAAR 0.630 2.320 -0.861 7.113 0.640 1.310 -1.879 7.606

Tags: , , , ,