Financial integration and the information environment: Evidence from emerging markets

1. Financial integration and the information environment: Evidence from emerging markets Qiyu Zhang Lancaster University Management School Wendy Beekes Lancaster University Management School Philip Brown University of Western Australia & University of New South Wales

2. Research Question • What is the association between financial integration and the information environment of a firm in emerging markets? • Financial integration: free access of foreign investors to local capital markets, and of local investors to foreign capital markets. • Indicators of a listed firm’s information environment • Intra-year price timeliness : based on the Beekes and Brown (2006, 2007) approach • Study is confined to listed firms in 24 emerging markets

3. Research Motivation • Financial liberalization in emerging markets since the late 1980s and early 1990s • Relatively little is known about the effects of financial integration on the recognition of different types of news (e.g., good news versus bad news) • What are the mechanisms? • E.g., Financial integration transmits higher quality disclosure and governance standards to emerging-market firms (e..g, Obstfeld, 1998; Stulz, 1999; Aggarwal et al., 2011) • Need a test

4. Our findings • Greater financial integration is associated with • More efficient (faster) price discovery • The effect is more pronounced for the timeliness of bad news relative to good news • Indirect effects arise through improved corporate governance Our contribution • Benefits of financial integration in emerging markets • Integration can have a positive influence on the level of information available about a firm in emerging markets • New measures of intra-year price timeliness • Beekes and Brown (2006, 2007) • Evidence of indirect effects of integration

5. Related literature and hypotheses • Information available to analysts improves after firms cross-list (Baker et al., 2002; Lang et al., 2003) • When firms are cross-listed on advanced foreign exchanges, their home-market pricing efficiency is enhanced (Korczak and Bohl, 2005; Baily et al., 2006; Liu, 2007; Su and Chong, 2007) • Financial market liberalization is associated with increases in firm-specific information, analyst coverage, and forecast accuracy (Bae et al., 2006) H1: The degree of financial integration is positively associated with the timeliness of price discovery in emerging markets

6. Related literature and hypotheses • Managers tend to withhold bad news due to their private incentives (Kothari et al., 2009) • Goverannce environment is positively associated with conditional (news-dependent) conservatism (Beekes et al., 2004; Bushman and Piotroski, 2006; Lobo and Zhou, 2006; Ahmed and Duellman, 2007; García Lara et al., 2007, 2009) • The scrutiny of foreign investors, foreign equity analysts, and foreign stock market listing standards can help improve the information environment by transmitting higher quality disclosure and governance standards to emerging-market firms (e.g., Obstfeld, 1998; Stulz, 1999; Doidge et al., 2004; Aggarwal et al., 2011) H2: The positive effect of financial integration is more pronounced on the timeliness of bad news than on the timeliness of good news

7. Path analysis • Aggarwal et al. (2011) find a positive relationship between international institutional investments and the corporate governance of local firms. • “Better” CG improves the information environment of a firm (Beekes and Brown, 2006; Aman et al., 2011; Beekes et al, 2012; Hass et al., 2014) • DRAW THE PATH GRAPHS!!

8. Data and sample construction • Sample period: 1995-2011 • Listed firms from 24 emerging markets • Exclude financial firms • Exclude firm-year observations with missing timeliness and control variables • Final sample consists of 9,983 firms and 55,790 firm-year observations • Databases • Datastream & Worldscope • Data on cross-listing: Bank of New York Mellon • Country level variables • Chinn and Ito (2006), Lane and Milesi-Ferretti (2007) • World Development Indicators (World Bank) • La Porta et al. (1998) • KOF Index of Globalization

9. Measuring Financial Integration (FINITI) • A de jure openness index (KAOPEN) developed by Chinn and Ito (2006) • Measuring the extent of openness in capital controls • Higher values indicate greater openness of a country to cross-boarder capital transactions • Used by papers such as Chinn and Ito (2008), and Umutlu et al. (2010) • A de facto measure (LMF) constructed by Lane and Milesi-Ferretti (2007) • Measuring the degree to which a country has made use of the international financial markets, in practice, over years • (Foreign equity assets and liabilities + foreign direct investment assets and liabilities) / GDP • Used by papers such as Umutlu et al. ( 2010), and Lucey and Zhang (2011) • A dummy variable (DR) that is equal to one if the firm is cross-listed on a foreign exchange in that year and zero otherwise

10. Dependent variables • Timeliness of price discovery (based on Beekes and Brown, 2006) • where Ptis the market-adjusted share price, observed at daily intervals from day -365 until day -1, and P0 is the price 14 days after the annual EPS release date • Sensitivity analysis: a deflated timeliness metric (TD), which is the timeliness metric divided by one plus the absolute rate of return on the share over the year.

11. Dependent variables Timeliness of good news/bad news (based on Beekes and Brown, 2007) Procedure for estimating timeliness of good news (same for bad news) • Positive market-adjusted daily log returns: • Create cumulative log return series, , by setting , and combining the good news return series as from day -364 to day 0(if day’s return was <0, set the good news return on that day to zero) • Timeliness of good news is calculated as

12. Control variables • GINFOR Information flow of a country, measured by internet users per 1,000 people, television per 1,000 people, and trade in newspaper percentage of GDP • COMMON A dummy variable that is equal to one if the country adopts the British common law system and zero otherwise • INFL The annual percentage change in the consumer price index • GDPPC The natural logarithm of GDP per capita in constant 2005 US dollars • STKTRD Total value of stocks traded as a share of the GDP • SIZE Natural logarithm of market capitalization in US dollars • PROFIT EBITDA to total assets • LEV Total debt to total assets • MB Market capitalization to book value of shareholders’ equity • RETVOL standard deviation of daily stock returns over the 360 days prior to the end of the year • GNEWS A dummy variable that is equal to one when the company’s share price outperforms the market over the year and zero otherwise. • All time-varying variables are winsorized at the 1% and 99% levels

13. Descriptive statistics of variables

14. Correlation coefficients

15. Estimation Methods • Pooled ordinary least squares (OLS) with standard errors clustered by firm • Path analysis • Source variable: financial integration • Mediating variable: corporate governance • Outcome variable: timeliness • Structural equation model (SEM): a regression of one of the outcome variables on the mediating variable, and a regression of the mediating variable on the source variable

16. Regression results - OLS

17. Regression results - OLS

18. Path analysis • Sample period: 2003 -2011 • Chinese listed firms • Exclude financial firms • Exclude firm-year observations with missing timeliness, corporate governance, and control variables • Final sample consists of 2,134 firms and 12,497 firm-year observations • China Stock Market and Accounting Research (CSMAR) platform • CG attributes: China Listed Firms Corporate Governance Research Database • Accounting data: China Stock Market Financial Statements Database • Prices, Returns, Trading data: China Stock Market Trading Database • Information on auditors: China Stock Market Financial Database – Audit Opinion

19. Summary statistics and correlation of the governance attributes of Chinese listed firms

20. Regression results - Chinese sample

21. Path analysis of direct and indirect effects of integration on timeliness

22. Key findings so far.... • Benefits of financial integration in emerging markets • More timely price discovery • Financial integationimproves the timeliness of bad news relative to good news. • We find evidence of a mechanism through which financial integration enhances the information environment: improved corporate governance • There is still much to do!

23. Thank you