Passive trading and firm performance: A quasi-natural experiment using the TSE-OSE merger in Japan

Abstract

We examine the impact of passive trading on firm performance using, as a quasi-natural experiment the merger between the Osaka Stock Exchange (OSE) and the Tokyo Stock Exchange (TSE) and the attendant inclusion of firms listed on the first section of the Osaka Stock Exchange in the TOPIX, a well-known market index covered by many ETFs and mutual funds. We document a positive market reaction for the first tercile OSE-only listed firms and marginally significant positive abnormal returns for the first tercile OSE firms that were also dual listed on the TSE around the merger announcement date. In addition, we observe a significantly positive reaction for the first tercile OSE-only listed firms in the weeks preceding index inclusion. The percentage of financial institutions investing in the first tercile, OSE1-only firms also increased in the post-inclusion period. The incumbents of the TOPIX Index experienced negative abnormal returns on the merger announcement date. In the long run, firms added to TOPIX exhibit neither higher firm value nor better operating performance than their counterparts that were already in the index. Our results are consistent with the strand of literature that finds no long-term significant impact of passive investors on firm performance.