Opaque Information Environment Research Articles

Financial reporting opacity and informed trading by international institutional investors

Using cross-country data on trading by international mutual funds, I find that firms with more opaque information environments, as captured by firm- and country-level measures of the availability of financial reporting information, experience more privately informed trading by institutional investors. The association between firm-level opacity and informed trading is most pronounced where country-level disclosure infrastructures are less developed and for those investors for whom the incentives and opportunities to acquire private information are greatest. A difference-in-differences analysis of the returns earned by institutions in opaque stocks suggests that this information advantage is economically significant.

Signal Quality and the Option Value of Shareholder Rights

We present a model that shows that strong shareholder rights have a greater impact on value for firms that operate in less opaque information environments. We model shareholder rights as an option at the disposal of shareholders to stop projects chosen by a manager, and show that the value of this veto increases with the precision of a signal the shareholder receives about project type. The model has implications for design of regulatory policy aimed at strengthening shareholder rights.

The impact of product market competition on earnings quality

AbstractThe objective of this paper is to examine the impact of product market competition on earnings quality. Based on a sample from the US manufacturing sector for the period 1996–2005, we find consistent evidence showing a positive relation between product market competition and earnings quality. Additional tests also confirm a positive relation between product market competition and the precision of public and private information held by investors and analysts. We also provide evidence that firms competing in concentrated and heterogeneous industries are associated with a number of earnings attributes and information quality not shared by those competing in concentrated but homogeneous industries. These findings are consistent with the intuition that firms enjoying a monopolistic advantage tend to avoid the attention of their competitors and politicians by creating a more opaque information environment.

Who Benefits from Corporate Opacity? International Evidence from Informed Trading by Institutional Investors

Using cross-country data on trading by international mutual funds, I find that firms with more opaque information environments, as captured by firm- and country-level measures of the availability of financial reporting information, experience more privately informed trading by institutional investors. The association between firm-level opacity and informed trading is most pronounced where country-level disclosure infrastructures are less developed and for those investors for whom the incentives and opportunities to acquire private information are greatest. A difference-in-differences analysis of the returns earned by institutions in opaque stocks suggests that this information advantage is economically significant.

Why Are Analysts Less Likely to Follow Firms with High Managerial Ownership?

Prior research finding a negative relation between managerial ownership and analyst coverage argues that greater managerial ownership lessens the need for external monitoring by financial analysts due to fewer agency problems (Moyer, Chatfield, and Sisneros [1989]). Other research, based on foreign firms, argues that greater managerial ownership leads to entrenchment, and the negative relation with analyst following reflects analyst reluctance to follow firms with incentives to withhold information (Lang, Lins, and Miller [2004]). We further evaluate these two explanations by directly examining the link between ownership structure and a firm's disclosure environment. Using a sample of 25,855 U.S. firm-year observations from 1995 to 2006, we confirm a negative relation between managerial ownership and analyst coverage. We also find that managerial ownership is negatively related to the likelihood of management issuing earnings forecasts and find that this negative relation is most pronounced for firms with impending “bad news.” Furthermore, firms with higher managerial ownership release less accurate and more optimistic forecasts, particularly when faced with bad news. Overall, our results support the view that agency problems associated with greater managerial ownership contribute to less disclosure and a more opaque information environment, which discourage analyst following. We examine these two explanations from an investor perspective and find that the joint effect of greater managerial ownership and greater analyst coverage enhance firm value. This result is again inconsistent with the notion that greater managerial ownership reduces the need for analyst monitoring.

The effect of CEO power on bond ratings and yields

Abstract We argue that executives can affect firm outcomes only if they have influence over crucial decisions. This study explores the impact of CEO power or CEO dominance on bond ratings and yield spreads. We find that credit ratings are lower and yield spreads higher for firms whose CEOs have more decision-making power. To further investigate why bondholders are concerned about CEO power, we show that powerful CEOs tend to maintain an opaque information environment. Bondholders demand higher yields because it is difficult for them to monitor managers in firms with powerful CEOs. Taken together, the results suggest that bondholders perceive CEO power as a critical determinant of the cost of bond financing.

Common Patterns in Commonality in Returns, Liquidity, and Turnover Around the World

We uncover similar cross-country and time-series patterns in co-movement or in stock returns, liquidity, and trading activity across 40 developed and emerging countries. The extent to which the liquidity and turnover of individual stocks within a country move together is related to the same institutional characteristics as is co-movement in stock returns. Commonality is greater in countries with weaker investor protection and a more opaque information environment. Monthly variation in commonality in returns, liquidity, and turnover is also driven by common determinants. Commonality increases during times of high market volatility, large market declines, and high interest rates, and is negatively related to capital market openness. Our results are consistent with theoretical models in which changes in the wealth and collateral value of traders and financial intermediaries endogenously affect liquidity, trading, and pricing.

The Market Reaction to Stock Split Announcements: Tests of Information, Liquidity, and Catering Hypotheses

We re-examine whether the abnormal returns around stock split announcements can be explained by an information hypothesis. Our evidence establishes a link between the abnormal returns and future earnings growth. Analysts revise earnings forecasts by 2.2-2.5% around split announcements, and this revision is significantly larger than that for matched firms. We further show that the earnings information in a split likely arises from the fact that splitting firms experience less mean reversion in their earnings growth relative to matched firms. Consistent with an earnings information hypothesis, the analyst revision and the abnormal returns are stronger for firms with more opaque information environments, and the cross-sectional variation in analyst revisions is related to the variation in abnormal returns.