MARKET OVERREACTION IN THE SINGAPORE STOCK MARKET : A STUDY OF THE DIRECTION, MAGNITUDE AND INTENSITY EFFECTS

Abstract

The sudden collapse of the stock market in 20 countries on 19, October 1987 and their subsequent rebound suggest that this is a case where markets have overreacted considerably. Besides market crashes, researchers have also found evidence of market overreaction in the Unites States markets at other times. Is the phenomenon of market overreaction present in the Singapore stock market? This study examines the possibility. The framework for analysis is the Overreaction Hypothesis. Under this hypothesis, three effects were examined. They are the Direction Effect, the Magnitude Effect, and the Intensity Effect The results are based on the price performance of 100 stocks in the Singapore Stock Exchange over the period of January 1975 till April 1989 is chosen as the test period. For firms that under-performed the market, the results are consistent with the Overreaction Hypothesis. However, for firms that out-performed the market, the results are less conclusive. Those firms that under-performed the market systematically tum around to out-perform the market within one week (the Direction Effect). Further, the magnitude of the corrective moves also increases systematically with the magnitude of events (the Magnitude Effect). Also, the magnitude of the corrective moves decreases with the length of the event formation period (the Intensity Effect). Other factors are considered in this study. The three effects persist even after controlling for the size factor. Hence, market overreaction is not a manifestation of the size effect. The impact of the October 1987 Crash is analysed by testing the Overreaction Hypothesis before and after the Crash. Local investors are found to overreact more to events after the October 1987 Crash. The three effects are not observed over longer holding periods, therefore, market overreaction to price declines is not a long term phenomenon.