Are All Independent Directors Equally Informed? Evidence Based on Their Trading Returns and Social Networks

Management Science, Forthcoming

40 Pages Posted: 1 May 2011 Last revised: 4 Dec 2013

Ying Cao

The Chinese University of Hong Kong (CUHK) - School of Accountancy

Dan S. Dhaliwal

University of Arizona - Department of Accounting

Zengquan Li

Shanghai University of Finance and Economics - School of Accountancy

Yong George Yang

The Chinese University of Hong Kong (CUHK) - Faculty of Business Administration

Date Written: May 1, 2011

Abstract

We study the impact of social networks on the ability of independent directors to obtain private information from their firms’ executives. We find that independent directors socially connected to their firms’ senior executives earn significantly higher returns than unconnected independent directors in stock sales transactions. The networks effect on independent directors’ trading profitability is stronger in firms with higher information asymmetry and with more powerful executives. In addition, the trading returns of independent directors previously unconnected with firm executives increase after the arrival of a connected executive, and drop after the connected executive leaves the firm. Moreover, the net stock sales by connected directors predict future negative news for up to three quarters. As a comparison, the trading returns of connected and unconnected independent directors do not differ significantly in stock purchases. Taken together, our results suggest that social connections help independent directors gain access to private bad news information from firms’ senior executives.

Keywords: Social networks, insider trading, independent directors

JEL Classification: G34; G38; M48

Suggested Citation

Cao, Ying and Dhaliwal, Dan S. and Li, Zengquan and Yang, Yong George, Are All Independent Directors Equally Informed? Evidence Based on Their Trading Returns and Social Networks (May 1, 2011). Management Science, Forthcoming. Available at SSRN: https://ssrn.com/abstract=1826605 or http://dx.doi.org/10.2139/ssrn.1826605

Ying Cao

The Chinese University of Hong Kong (CUHK) - School of Accountancy ( email )

Shatin, N.T.
Hong Kong

Dan S. Dhaliwal

University of Arizona - Department of Accounting ( email )

McClelland Hall
PO Box 210108
Tucson, AZ 85721
United States

Zengquan Li

Shanghai University of Finance and Economics - School of Accountancy ( email )

No. 777 Guoding Road, Shanghai
Shanghai, 200433
China

Yong George Yang (Contact Author)

The Chinese University of Hong Kong (CUHK) - Faculty of Business Administration ( email )

Shatin, N.T.
Hong Kong

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