THREE ESSAYS ON STOCK EXCHANGE DEMUTUALIZATION AND MERGERS by Kobana Abukari, B.Sc., M.A., M.M.S. A thesis submitted to the Faculty of Graduate and Postdoctoral Affairs in partial fulfilment of the requirements for the degree of Doctor of Philosophy in Management Carleton University Ottawa, Ontario © 2015 Kobana Abukari ABSTRACT The increased competition in the stock exchange industry, intensified by globalization and technological advancements, has motivated a number of changes in the stock exchange industry including demutualization and mergers. This thesis studies stock exchange demutualization and mergers in three separate but related essays. Essay one1 investigates the stock market and product market effects of stock exchange mergers, which have been facilitated by demutualization. We find that shareholders of targets and shareholders of the combined exchanges realize significant positive abnormal returns. Additionally, we find that shareholders of competitors from countries in the same geographical region and competitors at the same stage of development also realize significant abnormal returns. We also find that on the product market, the merging exchanges increase their market share and experience reductions in bid-ask spreads while rivals experience decreased market share and increased bid-ask spreads. We contend that stock exchange mergers have resulted in significant wealth creation on the stock market and substantial value creation on the product market for the merging entities. Essay two examines the market quality implications of stock exchange demutualization. We find that exchanges undertaking demutualization (especially developed stock exchanges) achieve significant reductions in transaction costs and volatility. Although the demutualized exchanges see improvements in market quality, a controlled group of mutual rival stock exchanges have experienced increases in spreads and volatility in the post-demutualization period, and have, as a result, seen deterioration in market quality. Essay three explores the market power consequences of stock exchange mergers. We find that stock exchange mergers have not resulted in the exercise of market power. Instead, the mergers have led to efficiency gains for the merging exchanges and efficiency losses for rivals. Our findings are insensitive to several robustness checks. 1 Essay one has been accepted for publication in the Journal of Financial Studies. ii ACKNOWLEDGEMENTS Undertaking and completing this thesis would have been impossible had it not been for the invaluable help, support and contributions of many people. I would therefore like to take this opportunity to express my sincere thanks and appreciation to the selfless help of the many individuals who contributed immensely to this thesis. I would first and foremost like to thank Professor Isaac Otchere, my thesis supervisor, for his unparalleled guidance, assistance, encouragement and friendship during the entire thesis process. Professor Otchere has diligently and patiently guided me through several drafts and the successful completion of the thesis. Admittedly, without Professor Otchere’s insightful direction, thoughtful suggestions and reasoned answers to my never-ending questions, this thesis would probably not have seen the light of day. Professor Otchere, thank you immensely for your extraordinary help on all facets of the thesis and academic life. I am eternally indebted to you for everything. The thesis has benefited significantly from the invaluable input of my thesis committee. In this regard, I would like to thank Professor Howard Nemiroff for the insightful comments, suggestions and support. I would also like to thank Professor Sana Mohsni for the valuable comments, suggestions and encouragement. My sincere thanks also go to Professor Gady Jacoby for the invaluable input, insights, comments, suggestions and for being on my thesis committee. My thanks also go to Professor Shantanu Dutta for the valued comments, suggestions and for agreeing to be part of the committee. Several other professors have helped me on this journey and I would like to offer my sincere thanks to them. First, I sincerely thank Professor Vijay Jog for his invaluable help and friendship over the years and for guiding me through the comprehensive examination phase. Professor Roland Thomas has tremendously helped me with statistics and modeling over the years. Accept my sincere thanks, Professor Thomas, for all your help. My thanks also go to Professor Alex Ramirez, Professor Uma Kumar and Professor Ernest Kwan for the help and guidance during the PhD program. iii Thanks to Greg Schmidt for the friendship and all the help with my hardware and other computing needs. I would also like to thank my friends and colleagues Anant Rege and Jayant Pandit for help with data transformation. Thanks to Phil Zhu and Erin Oldfold for the friendship and all the help on the thesis. I would like to acknowledge and thank Mr. Herbie Skeete at Mondo Visione for taking it upon himself to collect demutualization dates for stock exchanges for which I could not find the dates. I would also like to thank Ms. Eleanor Penistone at the World Federation of Exchanges and several individuals from a number of stock exchanges for their help with the collection of the demutualization dates. Thanks to Namawu Alolo and Mutako Alolo for the help over the years. Special thanks also go to Sue Khosla and the late Dev Khosla for providing me with a home away from home. Last, but not the least, I would like to thank my family for their love, support and sacrifices. Sincere thanks go to my wife Sahada and to my boys Kataali, Timalma and Wunyiko. Sincere thanks also go to my mom and siblings for always being there for me. I dedicate this thesis to the memory of my beloved dad and sister. I acknowledge the financial support from Carleton University during my PhD studies. iv TABLE OF CONTENTS ABSTRACT ........................................................................................................................ ii ACKNOWLEDGEMENTS ............................................................................................... iii TABLE OF CONTENTS .................................................................................................... v List of Tables ...................................................................................................................... x List of Figures .................................................................................................................... xi 1 Introduction and General Overview ............................................................................ 1 1.1 Introduction ......................................................................................................................... 1 1.2 Overview and Trends in the Stock Exchange Industry ..................................................... 12 References .................................................................................................................................. 21 2 Essay One: Stock and Product Markets Effects of Stock Exchange Mergers ........... 24 Abstract ...................................................................................................................................... 24 2.1 Introduction ....................................................................................................................... 24 2.1.1 Benefits of Study .................................................................................................... 32 2.1.1.1 Contributions of Essay to the Academic Community ......................... 33 2.1.1.2 Importance of Study to Investors ......................................................... 33 2.1.1.3 Corporate Policy Implications of Study .............................................. 33 2.1.2 Organization of Study ............................................................................................ 34 2.2 Literature Review ............................................................................................................. 34 2.2.1 Literature on Stock Exchange Mergers .................................................................. 35 2.2.2 Summary of the Literature on Mergers and Acquisitions ...................................... 39 2.2.3 Concerns raised about Stock Exchange Mergers ................................................... 41 2.3 Research Questions and Hypotheses ................................................................................ 43 2.4 Data and Methodology ...................................................................................................... 48 2.4.1 Data ........................................................................................................................ 48 2.4.2 Methodology .......................................................................................................... 52 2.5 Results ............................................................................................................................... 58 2.5.1 Stock Market Impacts of Mergers .......................................................................... 58 2.5.1.1 Pooled Results of All Mergers............................................................. 58 2.5.1.2 Individual Merger Analysis ................................................................. 63 2.5.1.2.1 Stock Market Performance of Merging Companies ........................ 63 v 2.5.1.2.2 Stock Market Reaction of Competitors to the Merger