Introduction Review of Literature Effect of budget announcement


The stock price and its volatility is determined by
available information to the investors. The Efficient Market Hypothesis (EMH)
explains that in information-efficient market, the stock prices reflect all
available information about stock. Fama (1970) introduced this theory and
explained that stock prices instantly reflect all available information,
therefore, the stock prices are unpredictable and react according to the new
information. As a result, investors can not earn more than average return
without taking additional risk. The theory implies, in an efficient market, new
information regulatory enters such as bonus issue, dividend announcement, stock
split, major and acquisition, disasters, major economic events, and political
issues and this information also affect stock prices. Government budget
announcement is one of the major economic events and if the market is efficient
the stock prices also adjusted according to the budget announcement and its
information. In this situation, the stock return follows random walk and
difficult to predict stock prices by investors to beat the market.

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Dolley (1933) tested the EMH in his pioneered study of
“Characteristics and procedure of common stock split-ups” by using event study
methodology. From this study, the event study methodology has been applying by
financial analysts to test the EMH in a stock market for the special event
which affect the stock market activities. In Sri Lanka, budget announcement day
is a most expected day by all people because it informs financial and
economical read map for subsequent year of the country. Few studies (Ranjani,
Sujeewa and Rathnasiri, 2009; Edirisinghe, 2017) concentrated on budget
announcement and stock price reaction on Colombo Stock Exchange (CSE), but
those studies focused before the internal war period and resettlement period
after war. Therefore, this study focusses good governance government budget
announcement and its impact on stock prices.  

Review of

Effect of budget announcement on stock price has been
discussed worldwide as well as in Sri Lanka. The investors reaction differs
from country to country. Most of the studies used event study methodology to
prove the pre and post period stock market reaction. In Sri Lanka, the effect
of budget announcement on stock price reaction differ from sector to sector
(Edirisinghe, 2017). ASPI and Milanka Price Index (MPI) show a downward trend in
pre and post budget announcement because of the continues tax imposition and
show an upward trend because of the tax concession and exemption (Ranjani,
Sujeewa & Rathnasiri, 2009). In addition to the budget announcement, stock
split announcement, civil war and dividend announcement also positively and
negatively affect the stock price in Sri Lanka (Hua & Ramesh, 2013;
Jayakody, 2017; Dharmarathne, 2013).

Compare to other events, such as dividend
announcement, stock split and civil war, budget announcement has some different
feature. It provides macroeconomic policies of the government and based on that
stock market prices may react. Patel, Dave & Shah (2016) identify the
efficiency of Indian stock market based on pre and post budget announcement and
proved that investors have not been able to earn abnormal return during the
study period.

Some unexpected monetary policy also has a significant
impact on stock prices (Leiderman & Offenbacher, 1986). Different period of
time, short, medium and long, is also observed and found that short-term post
budget has maximum impact compare to medium and long-term (Gupta & Kundu,
2006; Khanna & Gogia, 2014)


In order to find out the effect of budget announcement
of stock price in Sri Lankan Stock Market, the event study methodology was
used. The first budget speech date at Parliament was considered as event day (t
= 0). The event window was considered as t-15 to t+15 days to capture the
pre-budget announcement and post-budget announcement reaction on stock
price.  The estimation window was focused
from t-250 to t-15.

There are 295 listed companies in CSE as at 30th
September 2017 representing 20 business sectors. All sectors have been
considered for the study.  

The following steps were followed to test the effect
of budget announcement.

The daily stock return of each sector was calculated
by using the following equation.


= Return of stock i on period t

= Price of the stock i on period t

= Price of the stock at period t-1

Individual sector abnormal return is calculated by
using the following risk adjusted return model.


= the
abnormal return for the stock
i in period t

= the
expected return for stock
i in
period t



= The intercept term

= Beta coefficient of stock i


Average abnormal return was measured as:

The average abnormal return for the
time t

= Sample size

= The t-statistic

 = The
standard deviation of abnormal return at time t


The significant value of overall CAAR was calculated
via the t-statistic, as follows:


= The CAR t-statistic

= The cross sectional standard
deviation of the abnormal return for the sample of n firms at time t

Hypothesis of the

H1: Budget announcement has significant
effect on stock prices of the stocks traded on CSE.

Empirical Results

The following Table No.1 presents the findings of
AARs, t statistic of AARs, CAARs and t statistic of CAARs for 20 sectors’
budget announcement for each of the 31-days event window. Finally, significant
levels of 1%, 5% and 10% were analyzed.

Table No.1-
Details Results of AAR, CAAR and t Statistics







































































































































































Significant at 10% level, ** Significant at 5% level, *** Significant at 1%


According to the Table No.1, the AARs value presented
in the Table No.1 illustrate that it fluctuates positively and negatively
during the event window period. It is positive on 0.27% eight days before and 0.35%
six days after the event day. During the event day the AAR value is 0.008%
indicates    the investors observe the
available information on the event day for the decision making. Most of the
days the AARs values are negative both pre and post event day which indicates
that the budget announcement provides some negative impact on investors’ reaction.
Therefore, most the event periods the investors able to earn negative return.
The AARs values are insignificant during the pre-event window periods indicates
the budget information does not leak before the budget reading and post-budget
reading days also the information does not make significant influence on

The CAAR from -15 to +15 indicates the behavior of the
stock prices during the event window period. CAAR of the stock price of the CSE
turn negatively from -10 to the event day and this is the day the stock prices
start to react to anticipate the budget announcement effect, specially
investors expect some monetary policy changes after the budget announcement.
CAAR changes move more severely from +6 day and it continue up to +15 day due
to negative signal to investors from budget announcement.     

Figure No. I: AARs and CAARs

Figure No. I indicate the fluctuation of AARs and
CAARs during the event window. AARs fluctuate positively in the event day of
-15, -13, -11, -8, -7, +3, +5, +7, +11 and +13. It is again confirmed that the
CSE perceives budget announcement as good and bad information to earn return
from stock market. But, most of the days it shows a negative AARs which
indicates bad information is more than good information. This clearly revels
from the trend of CAAR. As mentioned by Ranjani, Sujeewa and Rathnasiri (2009)
and Edirisinghe (2017) CAAR results indicate a downward trend in stock prices
in CSE.  


The study attempt to identify the effect of budget
announcement on Sri Lankan stock price in the year of 2017. By applying event
study methodology, the study analyzes the abnormality of stock return pre and
post period of budget announcement in the Parliament of Sri Lanka. The aim of
the study is to identify the whether all sectors in the CSE react due to the
budget announcement or not. According to the risk adjusted return model, AARs
show insignificant effect on stock price and CAARs indicate a significant
negative trend during the event window. Finally, the study concludes that the
investors can not earn an abnormal return pre and post period of budget
announcement in Sri Lanka.   

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