Do Index Effects Reflect Idiosyncratic or Industry Effects? A Re-Examination of the Winners and Losers of S&P 500 Index Addition

This paper provides new findings concerning additions to the S&P 500 Index. We present the first evidence of industry effects that occur when stocks are added to the S&P 500 Index. With over a trillion dollars in index funds wealth tied to the S&P 500 Index, index additions exert price pressures on not only the firms that are added to the index and but the incumbent industry counterparts as well. We find that the share price of an added firm's industry counterparts increase in the announcement date and decrease on the effective date. We provide evidence that portfolio rebalancing helps explain the effective date abnormal returns documented for the incumbent industry counterparts. In addition, we show that the likelihood of a company being added to the S&P 500 Index is higher in industries with strong innovative activity, making revisions to the Index a vehicle for incorporating the value of such activity. Overall, our results suggest that S&P 500 Index composition changes are not information-free events.