Working Paper: NBER ID: w29365
Authors: Kun Li; Xin Kelly Liu; Shangjin Wei
Abstract: While major stock market indices are followed by large monetary investments, we document that membership decisions for S&P 500 have a nontrivial amount of discretion. We show that firms’ purchases of S&P ratings appear to improve their chance of entering the index (but purchases of Moody’s ratings do not). Furthermore, firms tend to purchase more S&P ratings when there are openings in the index membership. Such a pattern is also confirmed by an event study that explores a rule change on index membership in 2002. Finally, discretionary additions exhibit subsequent deterioration in financial performance relative to rules-based additions.
Keywords: Stock Index Membership; Discretion; Financial Performance; S&P Ratings; Moody's Ratings
JEL Codes: F30; G10; G20
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Discretionary membership decisions (D71) | Financial performance (G32) |
| Discretionary entrants (Z38) | Annualized profitability (G31) |
| Discretionary entrants (Z38) | Return on assets (ROA) (G32) |
| Discretionary entrants (Z38) | Stock price performance (G19) |
| Discretionary membership decisions (D71) | Resource allocation inefficiencies (D61) |
| Firms' purchases of S&P ratings (G24) | Likelihood of being added to the S&P 500 index (G17) |
| Openings in the index (Y20) | Firms' purchases of S&P ratings (G24) |