Reduction of Constraints on Arbitrage Trading and Market Efficiency: An Examination of Ex-Day Returns in Hong Kong after Introduction of Electronic Settlement


  • Palani-Rajan Kadapakkam

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    • University of Texas, San Antonio. I would like to acknowledge useful comments from Karan Bhanot, Lalatendu Misra, Raja Nag, Sarab Seth, Tom Thomson, Lila Truett, Ron Rutherford, an anonymous referee, and the editor, René Stulz. I would like to thank Betty Chan and Crystal Chan of the Hong Kong Securities Clearing Company, and Ron Sweet for their help. This work was supported by a summer research grant from the College of Business, University of Texas, San Antonio.


Previous research documents positive ex-dividend day returns in excess of one percent in the unique institutional setting of Hong Kong, where neither dividends nor capital gains are taxed. Short-term arbitrage trades around the ex-day were hampered by physical settlement procedures. After the recent switch to an electronic settlement system, which enables such trades, ex-day abnormal returns have declined to an insignificant 0.17 percent. This drop is more pronounced for high-yield stocks, which are more likely to attract dividend capture trading. The evidence points to the crucial role of short-term traders in ensuring the pricing efficiency of financial markets.