The Effect of Firm-Imposed Insider Trading Restrictions on Cost of Equity Capital

Abstract

This paper examines the impact of self-imposed blackout period insider trading restrictions on a firm's cost of equity capital. We investigate both cross-sectional differences between firms with blackout period restrictions versus those without such restrictions as well as the time-series impact of firms initiating such a restriction. Cross-sectionally, we find that firms with blackout period trading restrictions have lower cost of equity capital. Using a time-series analysis, we find that when firms initiate such a restriction, their costs of equity capital subsequently drop. In addition to the direct impact of the restriction, we also examine how the restriction affects the analyst following and management earnings forecast practice and how these changes in the information environment indirectly influence the cost of equity capital. We do not find a significant change in either analyst following or management forecast practices after the initiation of the blackout period restriction.

Keywords: insider trading restrictions; cost of capital; analyst coverage, management forecast

JEL Classification: D82, G30