Capital Gains Taxes, Pricing Spreads, and Arbitrage: Evidence from Cross‐Listed Firms in the U.S.
The Accounting Review, 2009

This study by Associate Professor Michelle Yetman and co-authors Jennifer Blouin and Luzi Hail from the University of Pennsylvania examines how shareholder‐level taxes affect the contemporaneous pricing of foreign firms’ U.S. cross‐listed and underlying home‐country securities surrounding the 1997 reduction in U.S. capital gains tax rates.

Consistent with tax capitalization, the authors find that the performance of cross‐listed shares is negatively related to dividend yield, suggesting an abnormal price increase for shares with greater anticipated taxable capital gains. Due to barriers to cross‐border arbitrage, underlying home‐country securities, on average, do not react during the event, creating a temporary tax‐induced pricing spread. When costs of arbitrage are low, the pricing disparity quickly dissipates and home‐country shares closely mirror the pricing of their cross‐listed counterparts.

In further tests, the authors are unable to document lock‐in behavior, which predicates a decrease in prices attributable to a surge in volume for shares with greater accrued taxable capital gains. Overall, these findings suggest that an exogenous shock to the U.S. tax regime reverberates in international asset prices, thereby affecting foreign firms’ costs of capital.