Does Comparability Mitigate Adverse Selection Costs Before Anticipated Firm Information Events? Evidence from Trading Volume

• In Event: M&A, Trading Volume, Analysts

Abstract

This paper examines the role of financial statement comparability in shaping investors’ reaction to private information prior to corporate announcements. We employ test settings in which, when traders possess timing information of corporate announcements, these traders decrease trading activity (i.e., delayed trading volume) before scheduled corporate announcements due to higher adverse selection costs of trading in the presence of informed traders. Using trading volume which summarizes the sum of investors’ idiosyncratic belief revisions, we find that financial statement comparability tends to “level the playing field,” thereby reducing the costs of trading against investors with private information. Specifically, we document that the degree of delayed trading volume prior to scheduled corporate announcements is less pronounced for firms with more comparable financial statements. When using unscheduled corporate announcements in which uninformed traders do not possess information about the timing of firm announcements and thus cannot exercise timing discretion in equity trading, we do not find similar results. In addition, the effect of financial statement comparability on pre-announcement trading volume is stronger in opaque information environments. Overall, this paper provides new, volume-based evidence on the role of financial statement comparability in mitigating investors’ aversion in equity trading before firm announcements.

Authors

• Junwoo Kim, University of Massachusetts-Boston

• Robert Genehung Kim, University of Massachusetts-Boston

• Sangwan Kim, University of Massachusetts-Boston