We estimate changes in within-industry stock-return comovement caused by the reaction
of rival firms to significant tariff cuts. In theory, rivals react by either increasing or decreasing product differentiation. Increased differentiation lowers cash flow correlation and
return comovement, while reduced differentiation increases comovement. Large-sample tests
show that tariff cuts in manufacturing industries increase comovement and more so for
within-industry ‘followers' than ‘leaders'. The notion that this comovement-increase reflects
efficiency-enhancing rival reactions is also supported by evidence of increased cost-efficiency
measures. One channel for this efficiency-increase is M&A activity among industry followers.