Insightful Insiders? Insider Trading and Stock Return around Debt Covenant Violation Disclosures

Abstract

This paper examines insider trading around first-time debt covenant violation disclosures in SEC filings, and is interesting from a research and regulatory standpoint for three reasons – delay and infrequency of a first-time disclosure, lack of attention to covenant disclosures by regulators, and a dearth of research. We document net insider selling in the 12 months before a debt covenant violation disclosure and net insider buying up to 12 months after disclosure. This net insider selling leads investors’ negative returns before violation disclosure. Net buying also leads investors’ positive returns after disclosure. We also show that net insider selling in a narrow (one to two month) window around the covenant violation disclosure associates predictably with investors’ price response in that same window.