Information risk, cost of equity and stock returns: evidence from Iranian firms

Abstract

PurposeA long history of literature has considered the role of information risk in determining the cost of equity. The question that has remained unanswered is whether information risk plays any systematic role in determining the cost of equity. One of the fundamental decisions that every business needs to make is to assess where to invest its funds and to re-evaluate, at regular intervals, the quality of its existing investments. The cost of capital is the most important yardstick to evaluate such decisions. Greater information is associated with the lower cost of capital via mitigating transaction costs and/or reducing estimation risk and stock returns. This study aims to investigate the impact of information risk on the cost of equity and corporate stock returns.Design/methodology/approachThe research sample consists of 960 firm-year observations for companies listed on the Tehran Stock Exchange from 2009 to 2018. The research hypotheses were tested using multivariate regression models based on panel data.FindingsThe results reveal that information risk has a significant positive impact on the firm’s cost of equity. However, the impact of information risk on stock returns is not statistically significant.Originality/valueTo the best of the knowledge, the current study is almost the first of its kind in the Iranian literature which investigates the subject matter; therefore, the findings of the study not only extend the extant theoretical literature concerning the information risk in developing countries including the emerging capital market of Iran but also help investors, capital market regulators and accounting standard setters to make timely decisions.