The market’s reaction to unexpected, catastrophic events: The case of oil and gas stock returns and the Gulf oil spill

Abstract

Purpose

The purpose of this paper is to examine the stock market reaction to the Gulf oil spill and determine if the markets exhibited rational pricing. On April 20, 2010, the US Coast Guard received a report of an explosion and fire aboard Transocean’s Deepwater Horizon offshore drilling rig. The resulting spill exceeded the Exxon Valdez oil spill as the worst in US history. With the total cost of the disaster reaching almost $54 billion for British Petroleum, clearly the spill had far-reaching effects on its market value. However, the more interesting question is what valuation effects might exist for other oil and gas firms, due to an increase in perceived risk for all offshore drilling and/or the likelihood of an increase in the regulation of the industry.

Design/methodology/approach

Because the new information was released piecemeal over time and has the potential to affect a number of firms simultaneously, Gibbon’s (1980) multivariate regression model methodology (MVRM) was used to examine share price reactions of firms in the oil and gas industry in the aftermath of the oil spill. This methodology allows one to test whether significant abnormal returns occur on days where new information is released. Further, one is able to test whether the market reaction was the same for each firm or whether the market differentiated between firms.

Findings

Evidence of abnormal returns was found for the majority of the information dates in our investigation. Further, the results reject the notion that the market reaction was the same for all oil and gas firms, leading to the conclusion that the market did differentiate between firms.

Originality/value

This research is important because the results support rational pricing of the US stock markets following this unexpected and catastrophic event. The market was examined over the period following the oil spill on multiple dates when important new information is provided. This study contributes to financial and economic research on market efficiency and reactions to major risk events.

Citation

Humphrey, P., Carter, D.A. and Simkins, B. (2016), "The market’s reaction to unexpected, catastrophic events: The case of oil and gas stock returns and the Gulf oil spill", Journal of Risk Finance, Vol. 17 No. 1, pp. 2-25. https://doi.org/10.1108/JRF-08-2015-0072