The Pricing of When‐Issued Common Stock: A Note

TLDR: In this paper, the authors investigate whether the price differential can be explained solely by the different settlement procedures and find that it cannot be explained by the transaction settlement procedures, and they find that the when-issued share sells at a higher price (adjusted for the split factor) than the old share.

Abstract: A BASIC POSTULATE of the theory of finance is that two equivalent financial claims will sell at the same price in a competitive financial market. An occasion for testing this single price law of markets arises when new shares created as a result of a stock split are traded on a "when-issued" basis. Since one old share entitles the holder to the same cash flow stream as a proportional number of when-issued split shares, the price of the old shares should be the same as the price of the when-issued shares adjusted for the stock split factor. However, casual empiricism suggests that these two prices are seldom equal, and that in virtually all cases, the when-issued share sells at a higher price (adjusted for the split factor) than the old share. A possible explanation of this apparent price discrepancy lies in the transaction settlement procedures. The settlement of when-issued trading is not made until six business days after the new shares are distributed, whereas trades in the old shares are settled five business days after the trade date. In this note, we investigate whether the price differential can be explained solely by the different settlement procedures and find that it cannot. Section I describes trading in when-issued securities on the New York Stock Exchange (NYSE) and discusses possible causes of this price discrepancy. Section II describes the data used in this study and presents the empirical results. Additional discussion is in Section III, and Section IV contains concluding remarks.