Non-Professional Investors' Judgments of the Reliability of Fair Value Estimates - The Impact of Investor Mood

• In Event: Fair Value and Estimation

Abstract

Accounting standards require, with reference to the underlying reliability of the valuations, the disclosure of fair values across three levels within a fair value hierarchy. While standard setters envisage that Level 1 fair values are more reliable than Level 3 fair values, and investors have been shown to perceive such variation, idiosyncratic investor differences likely lead to variation in the extent to which these differences in reliability are perceived. For example, some investors may perceive Level 1 fair values to be three times more reliable than Level 3 fair values, while other investors may perceive Level 1 fair values to be ten times more reliable. We find that investor mood, a factor that should be of no consequence to the assessment of reliability across the fair value hierarchy, is associated with differences in the extent to which Level 1 fair values are more reliable than Level 3 fair values. That is, investors in a more positive mood perceive the difference in reliability between Level 1 and Level 3 fair values to be more extreme than is the case for those in a less positive mood. Encouragingly, we find that including brief definitions in the headings under which fair values are prioritized reduces variation in the way in which reliability is perceived across those experiencing more positive and less positive mood states, and likely improves the effectiveness of fair value disclosures.

Authors

• Wei Chen, University of New South Wales

• Noel Harding, University of New South Wales

• Wen He, University of New South Wales