Corporate Disclosure Policy and the Informativeness of Stock Prices

Abstract

We examine the association between voluntary corporate disclosure and the informativeness of stock prices. We measure corporate disclosure using the AIMR-FAF annual corporate disclosure ratings. We define price informativeness by the association between current stock returns and future earnings changes: more informative stock price changes contain more information about future earnings changes. To measure this association, we use the multiple regression model of Collins, Kothari, Shanken, and Sloan (1994), wherein current returns are regressed against both current and future earnings changes and future stock returns. The aggregated coefficients on the future earnings changes, which we refer to as the future ERC, is our measure of informativeness (association). We hypothesize and find that greater disclosure is associated with greater price informativeness (i.e., higher future ERC). This is the first empirical evidence that enhanced disclosure results in stock prices that are more informative about future earnings, indicating that greater disclosure provides information benefits to the stock market. In addition, the method we use to document the benefits of enhanced voluntary disclosure can be applied in other cases of interest to both academics and policymakers, such as assessing the benefits of additional required disclosures.