Withholding Bad News in the Face of Credit Default Swaps Trading: Evidence from Stock Price Crash Risk

57 Pages Posted: 15 Jul 2017 Last revised: 15 Jul 2020

See all articles by Jinyu Liu

Jinyu Liu

University of International Business and Economics (UIBE) - School of Banking and Finance

Jeffrey Ng

Hong Kong Polytechnic University - School of Accounting and Finance

Dragon Yongjun Tang

The University of Hong Kong - Faculty of Business and Economics

Rui Zhong

The University of Western Australia - UWA Business School

Date Written: June 25, 2020

Abstract

The credit default swaps (CDS) market provides a trading venue for downside price movement. We find that future stock price crashes are less frequent after the inception of CDS trading on the firm’s debt. The causal effect of CDS trading on stock crash risk is supported by multiple approaches, including propensity score matching and entropy balancing analysis. The crash-reduction effect is stronger when CDS trading is more active or when corporate managers are more likely to hide bad news. Our findings suggest that CDS trading facilitates the gradual incorporation of withheld bad news into stock prices. Overall, our paper provides a new insight that financial innovations in the debt market help price discovery in the equity market that curtails the negative equity market effects of firms withholding bad news.

Keywords: credit default swaps; stock price crash risk; price discovery; bad news hoarding

JEL Classification: G10; G14; G32; M41

Suggested Citation

Liu, Jinyu and Ng, Jeffrey and Tang, Dragon Yongjun and Zhong, Rui, Withholding Bad News in the Face of Credit Default Swaps Trading: Evidence from Stock Price Crash Risk (June 25, 2020). Available at SSRN: https://ssrn.com/abstract=3003369 or http://dx.doi.org/10.2139/ssrn.3003369

Jinyu Liu

University of International Business and Economics (UIBE) - School of Banking and Finance ( email )

No.10, Huixindong Street, Chaoyang District
Beijing, 100029
China
+8613720001753 (Phone)

HOME PAGE: http://mzttd.club/liujinyu.html

Jeffrey Ng

Hong Kong Polytechnic University - School of Accounting and Finance ( email )

Hung Hom
Kowloon
Hong Kong

Dragon Yongjun Tang (Contact Author)

The University of Hong Kong - Faculty of Business and Economics ( email )

KKL 1004
Pokfulam Road
Pokfulam
Hong Kong
(852)22194321 (Phone)

Rui Zhong

The University of Western Australia - UWA Business School ( email )

35 Stirling Highway
Crawley, Western Australia 6009
Australia

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