We propose a new market'based measure of corporate transparency calibrated from a popular model of Credit Default Swaps (CDS) pricing. Less transparent firms according to this measure tend to have lower S&P Transparency and Disclosure ratings, and lower KLD or ISS corporate governance ratings. We use the measure to investigate the impact of the Sarbanes'Oxley (SOX) Act on corporate transparency and the cost of debt. Our tests show that corporate opaqueness and the cost of debt decrease significantly after SOX. Specifically, the typical firm in our sample experiences a 19bp reduction on its five'year CDS spread as a result of lower opaqueness following SOX, amounting to total annual savings of $ 1.65 billion for all firms in our sample. Furthermore, the reduction of opaqueness tends to be stronger for firms that were more opaque before SOX.
The effect of corporate transparency on securities markets is a key topic for researchers, market participants, and regulators. Although for different purposes, all share the need to measure corporate transparency in a consistent and reliable manner. Current measures of transparency use either linear regressions involving financial statement variables (see Jones 1991 and Dechow, Sloan and Sweeney 1995), linear regressions involving equity returns and financial statement variables (see Berger, Chen and Li 2006), or scores relying on expert judgment (see Botosan 1997 and Francis, Nanda and Olsson 2008). We propose an alternative measure of corporate transparency derived from the price level of debt contracts (not changes in levels).
The advocates of financial globalization argue that the integration of countries with the world financial system can have many benefits, particularly for emerging economies with segmented financial markets. In a global financial environment, firms from financially underdeveloped economies gain access to mature financial markets, which are liquid and offer long-term financing. This integration also helps to develop the domestic financial systems. As a consequence, the cost of capital decreases and financing constraints are relaxed. Furthermore, by issuing debt in foreign jurisdictions, with better contract enforcement institutions, the level of risk for creditors decreases and debtors become more able to borrow long term. All these potential advantages have prompted most emerging economies to liberalize their financial systems around the first half of the 1990s.
The crises that started in the mid 1990s with the Mexican devaluation have, however, raised concerns that globalization increases risks, making emerging economies vulnerable to financial distress. Different risks are usually associated with globalization and crises. A central one is the maturity risk derived from the shortening of the maturity structure, which exposes borrowers to potential rollover difficulties and interest rate fluctuations. In fact, short-term debt has played an important role in the crises of Mexico 1994-95, East Asia 1997-98, Russia 1998, and Brazil 1998-99. The higher exposure to risks that globalization may bring about has led many economists to argue that countries should liberalize their financial systems gradually, and that those that have already liberalized might consider imposing some type of capital controls.
The forward premium anomaly, discovered by Fama (1984), is one of the most prevalent puzzles in international finance. The uncovered interest parity (UIP) implies that high interest currencies should depreciate. However, a large body of empirical literature finds exactly the opposite high interest currencies tend to appreciate. Investors in high yield currencies benefit twice, once from the interest rate spread and once from the expected appreciation.
