on insurance industry
This study tests the efficient market theory by measuring the effects of Hurricane Katrina, one of the most deadly and destructive natural disasters to occur in the United States, on stock prices in insurance industry. It hypothesizes that insurance providers who offer services in the areas affected by Hurricane Katrina should incur a loss in the market-price of their stock following the natural disaster. This event study analyzed fifteen publicly-traded major insurance providers and the risk-adjusted rate of return on their stock before and after the date of dissipation of the hurricane, observed as August 30th, 2005. Results show stock returns, although dropping slightly after Hurricane Katrina, not having any measurable negative effect as a result of the storm. These results support the efficient market theory, as the insurance industry did not have any adverse effect from the devastation of Hurricane Katrina, allowing for no opportunity for abnormal return or avoidance of a loss. Appropriate statistical tests for significance conducted in this study show that Hurricane Katrina had no significant impact on the risk adjusted rate of return on selected insurance industry stock prices over the event study period.
INTRODUCTION AND BACKGROUND
Natural disasters have an opportunity to affect the stock market, but how soon subsequently to such events does the market react? Is it possible to avoid a capital loss by selling an insurance industry stock prior to such an event? The purpose of this event study is to test the market efficiency theory by analyzing the impact of a specific natural disaster from the time leading up to the event and then ultimately thereafter on the stock prices of insurance companies. How fast does the market price of the firms’ stock react to the natural disaster examined? This study will test the Insurance Industry’s reaction to Hurricane Katrina, the single largest financially destructive natural disaster in United States History by analyzing the average returns of stock prices of a sample of fifteen major insurers who conduct business in the affected area, observed as the states of Louisiana, Mississippi, Alabama, Florida, Tennessee and Georgia.
PURPOSE OF STUDY
The purpose of this study is to test the efficient market theory versus the effects of Hurricane Katrina, using a sample of fifteen publicly traded major insurance providers and the standard risk-adjusted event study methodology. The study analyzes the prices for one hundred eighty days prior to and thirty days subsequent to August 30th, 2005, observed as the date of dissipation of the hurricane. If a strong correlation exists between a natural disaster such as Katrina and an immediate equity market price drop, there may be an opportunity to avoid a significant capital loss by selling insurance stocks before such an event occurs. This would ultimately disprove the efficient market theory, as making a trade on the condition of an imminent natural disaster will give an investor the opportunity to “get out” before the market is affected, and ultimately lead to an avoidance of a capital loss which otherwise would not have been avoidable in an efficient market. LITERATURE REVIEW
Hurricane Katrina, although not the most deadly in history, was the costliest natural disaster to affect the United States. With total insured losses in the six states most affected by the storm being upwards of thirty-four billion dollars, and total both uninsured and insured losses exceeding two hundred billion dollars, the economic effects of Katrina were catastrophic (King). Over one million six hundred thousand claims were filed with insurance agencies in the time immediately following the storm (Hyle). At the initial dissipation of the storm, the insurance industry’s economic reaction was not as bad as originally predicted. Over ten thousand claim adjusters from dozens...