DEBT FORGIVENESS AND STOCK PRICE REACTION OF LENDING BANKS: THEORY AND EVIDENCE FROM JAPAN

Nobuyuki Isagawa, Satoru Yamaguchi and Tadayasu Yamashita

Journal of Financial Research, 2010, vol. 33, issue 3, 267-287

Abstract: We provide a simple model for analyzing how debt forgiveness affects the stock price of a lending bank. Our model shows that although debt forgiveness increases shareholder wealth of a bank in healthy financial condition, it decreases shareholder wealth of a bank in unhealthy financial condition. We empirically investigate the announcement effect of debt forgiveness on bank stock prices in Japanese markets. On average, lending banks experience a significant negative announcement effect with respect to debt forgiveness. Consistent with the prediction of the model, we find a negative relation between the announcement effect and the net bad loan ratio as a proxy of the unhealthiness of the financial condition of the bank.

Date: 2010
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https://doi.org/10.1111/j.1475-6803.2010.01271.x

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Persistent link: https://EconPapers.repec.org/RePEc:bla:jfnres:v:33:y:2010:i:3:p:267-287

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