A Generalized Portfolio Approach to Limited Risk Arbitrage: Evidence from the MSCI Global Index Change

Harald Hau ()

No 6094, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: We develop a framework to explore the asset pricing implications of simultaneous supply shocks in multiple assets in a setting with limits-to-arbitrage. The portfolio approach in Greenwood (2005) is generalized to allow for asymmetric information and therefore net positions of arbitrageurs against uninformed liquidity providers. We predict that announcement returns are not only positively proportional to the asset premium change of each stock (like in Greenwood), but also negatively proportional to the risk contribution of the arbitrage position captured by the product of the squared return covariance matrix and the vector of supply changes. The redefinition of the MSCI international equity index in 2001 and 2002 provides a powerful event study to test these predictions. We find strong evidence in favour of our generalized model of limited arbitrage. Moreover, asset pricing effects of weight changes across stocks are quantitatively similar for domestic and foreign stocks. MSCI stocks are therefore priced globally and not locally.

Keywords: index revisions; international equity arbitrage; portfolio theory (search for similar items in EconPapers)
JEL-codes: G11 G14 G15 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-cfn
Date: 2007-02
View list of references

Downloads: (external link)
http://www.cepr.org/pubs/dps/DP6094.asp (application/pdf)
CEPR Discussion Papers are free to download for our researchers, subscribers and members. If you fall into one of these categories but have trouble downloading our papers, please contact us at subscribers@cepr.org

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: http://EconPapers.repec.org/RePEc:cpr:ceprdp:6094

Ordering information: This working paper can be ordered from
http://www.cepr.org/pubs/dps/DP6094.asp

Access Statistics for this paper

More papers in CEPR Discussion Papers from C.E.P.R. Discussion Papers
Address: Centre for Economic Policy Research, 53--56 Great Sutton Street, London EC1V 0DG
Series data maintained by ().