Outside Directors and Stock Return Volatility: The Foreign Investor Connection

Abstract

In this paper we note that unrelated research in the management and finance fields, if combined, makes predictions concerning board reforms in emerging countries. Specifically, outside directors’ demographic characteristics that are salient to foreign investors should reduce stock price volatility in the local market. We investigate a sample of large public Korean firms in 2000-2003, a watershed period when Korean firms were forced to introduce a significant number of outside directors and allow a substantially larger amount of foreign ownership in the wake of the 1997 Asian Financial Crisis. Our empirical results show that the proportion of outside directors with advanced foreign degrees stabilizes stock price volatility. Given the possibility of bilateral interplay between board characteristics and foreign ownership, this study employs a variety of econometric models, including feedback, to test the robustness of our empirical results.

Keywords: volatility, regulation, corporate governance, foreign investors, emerging markets

JEL Classification: G15, G18, G34, G38, K22, L51, D21, C33