Parliamentary Elections' Impact on Stock Market Returns

Sammanfattning: We perform an event study where we investigate 47 parliamentary elections' impact on short-term stock market returns from 1999 to 2011 in 16 developed countries in Europe. We focus on small-cap indices and the results suggest that parliamentary elections have significant negative impact on small-cap stock market returns. We suggest that this can be explained by the increase in market uncertainty due to the political uncertainty. Hence, investors tend to avoid small-cap stocks in uncertain times because of their lack of liquidity and since larger stocks are seen as a safer alternative. We also find significant negative abnormal returns when looking at small-cap indices and considering only the elections with a centre government outcome, while we neither see a significant reaction when investigating the elections with a right-wing government outcome nor when considering the ones with a left-wing government outcome. Moreover, when considering all the elections that had a non-majority government outcome we find significant negative abnormal returns when considering the small-cap stock market indices. On the contrary, elections with a majority outcome did not generate any significant abnormal returns. We suggest that confusion about what political agenda the new government will adopt can lead to market uncertainty and hence increased investor risk aversion and thereby lower returns, when a non-majority government wins the elections. For mid-cap and large-cap firms we see no significant reaction and the same holds when considering indices including stocks of all market capitalizations. We perform robustness checks and non-parametric tests to ensure the validity of our significant findings. Thus, our findings propose that this type of political event can create market uncertainty that impact investor risk aversion and thereby significantly impact small-cap stock market returns negatively in the short run.