Addition to the Nikkei 225 Index and Japanese market response: Temporary demand effect of index arbitrageurs

We examine the Japanese stock market response to additions to the Nikkei 225 Index from 1991 to 2002. Similar to the reactions in the U.S. markets, the stock prices of the added firms go up on the announcement date, continue to increase until the day before the effective change date, and then decrease on and just after the change date. The stock price increase in this run-up period is thus temporary, as it is canceled out by the decline that begins on the change date. We also find that the excess demand of index arbitrageurs for shares of newly added firms is the main source of the temporary stock price increase.