“Do Stock Splits Increase Information Production? Evidence from Institutional Trading” by Gang HU
National University of Singapore
Thomas J. Chemmanur
In this paper, we analyze the incentives of outsiders to produce information about a firm, by studying institutional trading and brokerage commissions around a specific corporate event, namely, a stock split. We make use of a large sample of transaction level institutional trading data. We directly test an extended version of the Brennan and Hughes' (1991) information production theory of stock splits for the first time in the literature. We compare brokerage commissions paid by institutional investors before and after a split, and relate the informativeness of institutional trading to brokerage commissions paid. We also compute realized institutional trading profitability net of brokerage commissions and other trading costs. Our results can be summarized as follows. First, both commissions paid and trading volume by institutional investors increase after a stock split. Second, institutional trading immediately after a split has predictive power for the firm's subsequent long-term stock return performance; this predictive power is concentrated in stocks which generate higher commission revenues for brokerage firms and is greater for institutions that pay higher brokerage commissions. Third, institutions make positive abnormal profits during the post-split period even after taking brokerage commissions and other trading costs into account; institutions paying higher commissions significantly outperform those paying lower commissions. Fourth, the information asymmetry faced by firms decreases after a split; the greater the increase in brokerage commissions after a split, the greater the reduction in information asymmetry. Overall, our results are broadly consistent with the implications of the information production theory.