Isolating the Effect of Disclosure on Information Risk

57 Pages Posted: 9 Apr 2007 Last revised: 22 Feb 2012

See all articles by Vicki Wei Tang

Vicki Wei Tang

Georgetown University - Robert Emmett McDonough School of Business

Multiple version iconThere are 2 versions of this paper

Date Written: May 1, 2009

Abstract

A causal relationship between disclosure practices and cost of capital is difficult to establish because cost of capital reflects both disclosure practices (information risk) and fundamentals that are being disclosed (fundamental risk). To separate information risk from fundamental risk, this paper employs an examination of a unique institutional setting in which certain Chinese companies have two classes of shares that entitle their holders to identical cash flow and voting rights but are available to mutually exclusive sets of investors: A shares to domestic investors and B shares to foreign investors. Because the fundamental risk is theoretically identical, the price differential between A and B shares should reflect differential information risk for A and B shares, as determined by disparity in public disclosure available to domestic and foreign investors.

I find that disparity in public disclosure available to domestic and foreign investors is related to the cross-sectional variation in both the level and change in price differentials between A and B shares. First, the greater the disparity in information disclosed to domestic and foreign investors, the greater the level of price differentials. Second, in response to an exogenous shock, the greater the disparity in information disclosed to domestic and foreign investors, the smaller the decline in price differentials. Finally, the impact of disclosure practices on price differentials is muted on the Shenzhen Stock Exchange (SZSE). It is presumably because the majority of foreign investors on SZSE are from Hong Kong and they incur a relatively lower information acquisition cost to overcome disparity in public disclosure.

Keywords: Disclosure, Information risk, Fundamental risk, Information cost, Language, Distance

JEL Classification: M41, G12, G15

Suggested Citation

Tang, Vicki Wei, Isolating the Effect of Disclosure on Information Risk (May 1, 2009). Available at SSRN: https://ssrn.com/abstract=977559 or http://dx.doi.org/10.2139/ssrn.977559

Vicki Wei Tang (Contact Author)

Georgetown University - Robert Emmett McDonough School of Business ( email )

3700 O Street, NW
Washington, DC 20057
United States

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