Accounting information and left-tail risk

Irfan Safdar (), Michael Neel () and Babatunde Odusami ()
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Irfan Safdar: Widener University
Michael Neel: University of North Texas
Babatunde Odusami: Widener University

Review of Quantitative Finance and Accounting, 2022, vol. 58, issue 4, No 12, 1709-1740

Abstract: Abstract Several recent studies attribute stock price crashes to firms withholding bad news from financial disclosures before a stock price crash. Contrary to this notion, we find evidence of a robust link between information in a firm’s financial disclosures and potential left-tail risk. We document that the sophisticated equity options traders incorporate information derived from financial statements about left-tail risk into prices of out-of-the-money put options on a firm’s equity, implying that a firm’s financial disclosures contain significant information relevant to pricing expected crash risk. However, we find that stock market investors at large appear to overlook this link and fail to incorporate information in financial disclosures about left-tail risk into stock prices in a timely fashion, potentially contributing to the severity of the eventual crash. These findings contradict the notion that managers can fully conceal information pertinent to left-tail risks and highlight the role of potential errors by investors in processing accounting information pertinent to left-tail risks. Our study is amongst the first to link financial statement analysis to expected crash risk.

Keywords: Left-tail risk; Accounting information; Financial statement analysis; Market efficiency; Crash risk (search for similar items in EconPapers)
JEL-codes: G11 G12 G14 G40 (search for similar items in EconPapers)
Date: 2022
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Citations: View citations in EconPapers (4)

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DOI: 10.1007/s11156-021-01036-6

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