The Impact of Terrorist Attacks on Financial Markets

PhD dissertation investigates the impact of terrorist attacks on equity financial markets. It uses traditional event study approaches to identify and measure market reaction to these attacks. This project concentrates on the United States and the last “wave” of international terrorist events initiated in 2001 by the September 11 attack. The purpose of this research is to improve our understanding of the consequences of terrorism for equity financial markets. Three empirical studies are presented. The first study examines market efficiency during the events of September 11 by studying the stock returns of tenants in the New York World Trade Centre (WTC). It measures the abnormal equity returns of tenant firms on September 17th 2001 and compares their performance with a group of control firms. The abnormal returns are also regressed against financial and industry variables to assess crosssectional determinants of returns. The results show statistically significant differences between the abnormal returns of the WTC tenants and control groups. The differentials are, however, dependant on industry sector. This industry effect is confirmed in cross-sectional analysis. The analysis also reveals that firm financial performance has a significant role in this relation and can mitigate abnormal returns. Overall, it seems that investors were sensitive to the effects of September 11 and tended to discriminate tenants of the WTC from other firms. Beyond the issue of tenancy in the towers, investors also took into consideration the industry and the financial performance of firms. The second empirical study investigates the industry-specific effect of terrorism on equity financial markets. It evaluates the industry effect by calculating U.S, Spanish and U.K industry portfolio abnormal returns and volumes following the September 11 attacks 2001, the Madrid bombings of March 11, 2004 and the London bombings of July 7. Results from this study show that terrorist attacks generate abnormal returns and abnormal volumes with some variation across industries. Recurrent patterns across countries and events enable identification of terrorism sensitive and terrorism neutral industries. The research outputs also suggest a positive relationship between returns and volumes as well as between abnormal price volatility and volumes following major terrorist attacks The third study provides a comparative analysis of event study methods. Using five event study techniques, abnormal returns are calculated on 95 portfolios of U.S industry, sector and sub-sectors, following the September 11 attack, the 2002 Bali bombing, the 2004 Madrid bombing, and the 2005 London bombing. The techniques include the Brown and Warner (1980, 1985) approach coupled with parametric and non-parametric tests, and four modified market model regression approaches: the CAPM model, the Fama and French three factors model (1996), the GARCH model and the GARCH model with Fama and French factors. The estimations produce two different categories of abnormal returns: the Brown and Warner model generates mean adjusted abnormal returns, and the regression models produce market adjusted abnormal returns. Results from this study exhibit some variation in the abnormal returns produced by the alternative estimation models. Differences between the mean and the market-adjusted abnormal returns are considerable. While there is more coherence amongst the regression results, the various market-adjusted abnormal returns differ considerably.