Do Fair Value Adjustments Excluded From Net Income Convey New Information That Is Complementary to GAAP Earnings?
58 Pages Posted: 12 Jul 2021 Last revised: 22 Jun 2022
Date Written: May 28, 2022
We exploit banks’ recently mandated quarterly fair value disclosures to perform the first short-window event study of fair value adjustments excluded from net income, and offer three main results. First, we find these fair value adjustments are positively associated with short-window stock returns and that they impact investors’ response to (non-fair value) GAAP earnings. These results suggest that these fair value adjustments provide “new” information at the time of their disclosure and that they are complementary to GAAP earnings. Second, we find that this complementary relation is larger when (i) the probability that exit prices will be realized is higher, (ii) GAAP earnings are less informative, and (iii) fair values are not observable from financial markets. Finally, all of these results only hold in the period surrounding the financial crisis, when fair values diverged significantly from book value. Taken together, our results suggest that fair value adjustments that rely on unobservable inputs reflect new information at their disclosure date that investors incorporate into price, these adjustments help investors better interpret GAAP earnings, and these effects only hold in periods where fair values diverge significantly from book value. Overall, our study suggests that investors benefit when firms report both GAAP earnings and fair value information.
Keywords: Fair Value; Disclosure; Regulation; Information Content; Signal Complementarity
JEL Classification: G12, G21, M41
Suggested Citation: Suggested Citation