Just wondering if you have a chart handy. Maybe 10-20 stocks and their history by going into and out of those indexes. Is it like a 5% gain (since there is already anticipation of it going in) and a 10% loss (since mutual funds don't want to be stuck with something they need to unload)?? Thanks, Cabin...
I think OP is referring to index reconstitution. Inclusion or removal of a company. MF and ETF prospectusseseses will spell out specifics regarding calculation methodology and timings, if different than the actual reconstitution event. Unless specified, MFs and ETFs will remain constructed to the index up until the reconstitution event. As with most things explained in legalese, there are exceptions. From a general market participant point of view, inclusion or removal is a NEWS event. The index remains unchanged until reconstitution event/day.
But smart people know if a stock is headed into or going out of the index. So how do you price a company that looks like it is headed into an index?? I mean extra value... Does it create (add) more than 10% to the stock price if a small company is on the border (cusp) and gets into one of those indexes?? Or is it a lot less...?
It will probably already run-up before the actual change. I guess it will depend on liquidity. If it's easy to get decent volume it wouldn't move much. But if there's not much you can get, price will be affected a lot more. Good point from @tiddlywinks re what a MF or ETF can and cannot do. If they are bound by following the index exactly, they can't remove or add stocks at will prior to the event date. HF's etc will anticipate the moment the news breaks and maybe hold until event, then basically supply the demand of MF's/ETF's etc. So in theory, only if there's an imbalance when the event happens, the stock will move more. Buy the Rumor, Sell the News.... or in this case... Buy the News, Sell the Event.
Yes, the stocks that are added to the S&P 500 (or for that matter the S&P 600 Small Cap, S&P 400 Mid Cap) or any of the Russell indices do rise after immeditately addition. Typically around 1 to 3% (this is my personal observation, not a statistical measurement). Conversely, stocks that are removed from the indices, or stocks that are downgraded (such as moving from the Mid Cap to the Small Cap index) do fall in price. The problem with trying to take advantage the S&P index changes is that I don't believe that the schedule is pre-announced, so there is no way to predict which stocks to buy/sell, or when. The announcements are simply made after market close. Also, the S&P indices, such as the S&P 500, don't always have an exact number of stocks, due to spinoffs or mergers. Right now the S&P 500 has 505 stocks. So you wouldn't know exactly how many stocks will be added or deleted. The Russell index changes on the other hand are very playable. The change schedule is once per year, immediately after market close, and is announced months in advanced. Usually there are several stocks eligible, and the final selections are strictly based on Market Cap, using the closing price on the evening of the changes.
Returns of index adds/deletes has been heavily studied in the academic literature. Also it was a go-to strategy for SAC for many years.