Interfirm Stock Price Effects of Asset-Quality Problems at First Executive Corporation
Posted: 21 Nov 2000
We use stock return data to investigate the effects of the First Executive (FE) failure on other life insurance firms. In contrast to previous studies, we explicitly test for the separate effects of individual (retail) and institutional customer responses. The announcement of an accounting charge for junk-bond losses by First Executive Corporation triggers negative stock-price reactions for unrelated life insurers. Insurers with larger portfolio holdings of junk bonds, and greater dependence on retail business, experience stronger negative reactions to the announcement. However, an earlier announcement that regulators were investigating possible junk-bond concealment at FE is positively related to dependence on retail policyholders. The reversal between the two events is consistent with retail customer perceptions responding to disproportionate media coverage, documented by others, of junk-bond problems. Tests of interactions indicate that retail policyholder responses are conditioned on the degree of junk-bond holdings, not indiscriminate. Therefore, our work implies that in the event of a future financial crisis at a large life insurer, realistic, balanced information about the condition of the industry targeted toward individual customers will be useful in preventing a surge in policy surrenders and attendant deadweight losses.
JEL Classification: G22, G14, G28, G33, G38, L14, M41, M43
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