In this paper, we study the returns of emerging market stocks that are included in the MSCI Emerging Markets index, a widely used benchmark for investment funds. Our sample consists of 269 stocks from 24 countries that were added to the index and 262 stocks that were deleted. We find convincing evidence of positive (negative) permanent price impacts upon index inclusion (exclusion). We attribute this to the radar screen effect (Merton, 1987), which predicts that more visible stocks attract more (distant) investors and hence require lower expected returns. Consistent with this theory, we find that betas with respect to the index increase, while those of the local indices decrease. When we analyse returns over an event window from before announcement to after inclusion, we find evidence of a pronounced short term drift which is partially reversed at the inclusion date. We attribute this short term phenomenon to limited arbitrage on the predictable portfolio rebalancing behaviour of tracker funds
index inclusions, asset pricing, market efficiency, emerging markets
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