The Trading Stock Valuation Adjustment and Economic Rents to Shareholders

Abstract

In August 1976 the then Federal Treasurer foreshadowed the incorporation in the Income Tax Assessment Act, 1936 of a severely modified form of the Mathews Committee's (1975) recommendations on trading stock. This paper documents the existence of substantial “tax-free” capital gains to those invested in the equity of affected companies, in particular retailer-merchants, at the time of this announcement. The observed price response was immediate and consistent with subsequent realizations of the “trading stock valuation adjustment” – both of which would be expected if capital markets are efficient.

A Price Reversal Test of the Market Impact of the Trading Stock Valuation Adjustment

“…The results are consistent with the findings of Sinclair and Whittred (1982) and may be integrated with the price reversal literature discussed in Smith (1981).…”

“…Aitken and Walter (1984) re-examined the iso-beta methodology used by Sinclair and Whittred (1982) and reported no apparent aggregate price reaction at the announcement of the withdrawal of the TSVA using daily or weekly return data. However, it was noted by Larcker (1981, p.2l9) that the lack of an overall market reaction to an event does not preclude the possibility that a price reversal may have occurred.…”

“…6. The 10 portfolios were formed from the deciles of the ranked "TSVA effect" used in Sinclair and Whittred (1982).…”

“…The importance of the introduction of the TSVA was documented by Sinclair and Whittred (1982) who conclude that those who invested in equities prior to the date at which tax changes were generally anticipated obtained substantial tax-free capital gains through rises in the price of the affected companies' shares.…”

The Trading Stock Valuation Adjustment: Some Extensions and Modifications

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This paper seeks independent confirmation of the research conclusions reached by Sinclair and Whittred (1982) regarding a capital market reaction to the introduction of the Trading Stock Valuation Adjustment (TSVA). This analysiS extends and modifies that research and uses the date of the subsequent withdrawal of the TSVA to test for evidence of any reversal impact on the stock prices of the firms initially affected.

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