Download What is the event study methodology

What is the event study methodology ?
Stock price reactions to announcements of corporate events (such as merger
announcements) are measured by standard event study methodology. Under the
assumption of semi-strong form market efficiency, the announcement effects provide
an unbiased estimate of the market's valuation in response to the information
contained in the announcement.
For the 200-trading-day “estimation period” (which is t=-250 to -51, where t=0
is the event's announcement date), “market model” parameters are obtained by
regressing individual daily returns on the corresponding equal-weighted daily market
index returns, which are provided by the CRSP database. The market model is defined
as:
Rjt = j + jRmt + jt
where:
Rjt
=
rate of return for stock j on day t,
Rmt =
rate of return for the equal-weighted market index on day t,
j
the intercept, i.e., mean return which is not explained by the market,
=
j =
stock j's sensitivity to the market’s return,
jt =
the error term.
The predicted return for a firm on a day in the event period is the return predicted
by the market model on that day using the estimates of j and j from the pre-event
“estimation period”. That is, the predicted return for stock j on day t in the event
window is:
Rˆ jt  ˆ j  ˆj Rmt
The abnormal return for stock j on day t in the announcement-event window is
then defined as:
ARjt =
Rjt
Rjt -
The cumulative abnormal return (CAR) for stock j over the event window t =
t1 to t2 is calculated as:
t2
CARj,(t1, t2) =
 AR
t t1
jt
The average cumulative abnormal return (ACAR) over an event-window (t= t1 to
t2) is the sum of the daily average prediction errors:
ACAR 
1 N
 CARjt
N j 1
where N = the number of the companies in your sample.