Abstract
This investigation researches how industry institutional regimes can affect the pattern and volatility of stock prices and returns. This paper searches for information signals of regulatory policy in US electric public utility company stock returns and also tests for volatility changes from the buffering effect from deregulation. Utility stock returns asymmetry in up and down markets is modeled for evidence of investor information signals of regulatory behavior. Lax regulation should lead to utility stock returns that react strongly to up markets due to weakly-constrained expected upside profits. Utility stock returns should have a small response to down markets. Stringent regulation should generate the opposite result. Since stock returns distributions typically have skewness and kurtosis, this study applies flexible probability density function (pdf) regressions methods that accommodate skewness and kurtosis. This paper concludes that since utility stock returns have a strong response to down markets relative to up markets, there is down market asymmetry in price and returns volatility. This evidence suggests that investors perceive that utility profit regulation is stringent. It also suggests, surprisingly, that the buffering effect has been increased with deregulation. Lastly, robust estimation of financial models performed herein shows that regression estimation should not assume a normally distributed error term.
Highlights
This paper investigated the asymmetric response of utility stock price volatility for information signals of investors’ perceptions of utility regulatory policy
It estimated the impact of wholesale deregulation on systematic risk, or, the buffering effect associated with deregulation
The results indicate that utility stock returns do respond asymmetrically to daily up and down markets and that the down market response of utility stock returns dominates
Summary
This paper searches for information signals of investors on their perspectives toward regulatory policy in electric utility company stock price volatility soon after the deregulation of the US electric public utility industry. Utility stock returns responses to up and down markets are modeled for evidence of investor information signals of regulatory behavior. Utility stock returns should have a small response to down markets with lax regulation. Stock returns data and their error distributions usually have skewness and leptokurtosis, or, thick tails, which is well established in the literature. These characteristics cause intercept bias and inefficiency in slope estimates which is discussed in this paper. There are many flexible pdfs that accommodate skewness and thick tails, the SGT has been found to be the pdf that has the best fitting regressions relative to the normal, other pdfs as well as the flexible pdfs for modeling stock returns
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