Using Annual Report Sentiment as a Proxy for Financial Distress in U.S. Banks

35 Pages Posted: 25 Jan 2017 Last revised: 3 Oct 2018

See all articles by Priyank Gandhi

Priyank Gandhi

Rutgers Business School, Newark and New Brunswick

Tim Loughran

University of Notre Dame

Bill McDonald

University of Notre Dame - Mendoza College of Business - Department of Finance

Date Written: September 25, 2018

Abstract

Current measures of bank distress find marginal value in predictive variables beyond a capital adequacy ratio and tend to miss extreme events impacting the entire sector. Our paper advocates a new proxy for bank distress: sentiment measures from banks’ annual reports. After controlling for popular forecasting variables used in the literature, we find that more negative sentiment in the annual report is associated with larger delisting probabilities, lower odds of paying subsequent dividends, higher subsequent loan loss provisions, and lower future ROA. Our findings suggest that regulators could augment current early warning systems for banks and the banking sector—where the measures are based exclusively on financial statement data—by using the frequency of negative words in banks’ annual reports.

Keywords: Financial distress; textual analysis; negative sentiment; distressed delisting; financial institutions.

Suggested Citation

Gandhi, Priyank and Loughran, Tim and McDonald, Bill, Using Annual Report Sentiment as a Proxy for Financial Distress in U.S. Banks (September 25, 2018). Available at SSRN: https://ssrn.com/abstract=2905225 or http://dx.doi.org/10.2139/ssrn.2905225

Priyank Gandhi

Rutgers Business School, Newark and New Brunswick ( email )

111 Washington Avenue
Newark, NJ 07102
United States

Tim Loughran (Contact Author)

University of Notre Dame ( email )

Department of Finance
245 Mendoza College of Business
Notre Dame, IN 46556-5646
United States
574-631-8432 (Phone)
574-631-5255 (Fax)

Bill McDonald

University of Notre Dame - Mendoza College of Business - Department of Finance ( email )

P.O. Box 399
Notre Dame, IN 46556-0399
United States

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