The Impact of an SEC-Induced Increase to Stock Liquidity on Voluntary Disclosure

Abstract

In addition to disclosure regulation, the Securities and Exchange Commission (SEC) periodically intervenes in the market making process to facilitate fair, orderly, and efficient capital markets. For example, responding to calls for increased market maker competition on the Nasdaq in the early 1990s, the SEC imposed several reforms in 1997 to decrease bid-ask spreads and dealer rents. While prior research documents that this reform was successful in improving market maker competition and stock liquidity, we examine whether this increase in liquidity sufficiently altered firm’s incentives to disclose, such that firms reduced voluntary disclosure. In a differences-in-differences design, we examine whether firms affected by the reforms subsequently reduced their voluntary disclosure and whether this reduction in disclosure increased information asymmetry among investors. Our results suggest that firms impacted by the regulatory intervention subsequently reduced management forecast frequency relative to a set of firms unaffected by the regulation. Further, the firms that reduced disclosure experienced an increase in information asymmetry among investors through an increased probability of informed trading.

Keywords: Voluntary Disclosure, Stock Liquidity, Information Asymmetry

JEL Classification: D82, G14, G18, M41