Measuring Reputational Risk: The Market Reaction to Operational Loss Announcements
Patrick De Fontnouvelle
Federal Reserve Bank of Boston - Supervision and Regulation
October 30, 2005
We measure reputational losses by examining a firm's stock price reaction to the announcement of a major operational loss event. If the firm's market value declines by more than the announced loss amount, this is interpreted as a reputational loss. We find that market values fall one-for-one with losses caused by external events, but fall by over twice the loss percentage in cases involving internal fraud. We find that for firms with weak shareholder rights, there is not a significant difference between internal fraud and non-internal fraud events on market returns; however, for firms with strong shareholder rights, while we do not find evidence that the market reacts more than one-to-one for non-internal fraud announcements, we find strong and robust evidence that the market does fall more than one-to-one for internal fraud announcements. These results are consistent with there being a reputational impact for losses due to internal fraud while externally-caused losses have no reputational impact.
Number of Pages in PDF File: 34
Keywords: Reputation, Reputational Risk, Operational Risk, Corporate Governance, Fraud
JEL Classification: G14, G21, G32working papers series
Date posted: December 5, 2005
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