Do Bond Rating Changes Affect Information Risk of Stock Trading?

Abstract

Using a sample of 279 upgrades and 310 downgrades from 1996 to 2004, we find that bond rating changes affect asymmetric information of stock trading and other measures of information risk. More specifically, when a firm's bond rating is upgraded (downgraded), its stock information asymmetry and its analysts' earnings forecast dispersion are significantly reduced (increased), while the institutional equity holdings of its shares are significantly increased (reduced). In addition, the degree of the change in stock asymmetric information is positively associated with the magnitude of the bond rating changes. Our evidence supports the hypothesis that a firm's bond rating change influences investors' perceptions of the firm's disclosure level, which, in turn, affects the information asymmetry of its stock trading and other measures of information risk.

Keywords: Bond rating changes; Information asymmetry; Information risk

JEL Classification: G10