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Disclosure, liquidity, and the cost of capital (1991)
| Venue: | Journal of Finance |
| Citations: | 251 - 8 self |
BibTeX
@ARTICLE{Diamond91disclosure,liquidity,,
author = {Douglas W. Diamond and Robert E. Verrecchia},
title = {Disclosure, liquidity, and the cost of capital},
journal = {Journal of Finance},
year = {1991},
pages = {1325--1359}
}
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Abstract
This paper shows that revealing public information to reduce information asymme-try can reduce a firm's cost of capital by attracting increased demand from large investors due to increased liquidity of its securities. Large firms will disclose more information since they benefit most. Disclosure also reduces the risk bearing capacity available through market makers. If initial information asymmetry is large, reducing it will increase the current price of the security. However, the maximum current price occurs with some asymmetry of information: further reduc-tion of information asymmetry accentuates the undesirable effects of exit from market making. THIS PAPER STUDIES THE causes and consequences of a security's liquidity, especially the effect of future liquidity on the security's current price-equiv-alently the effect on its required expected rate of return, its cost of capital. Under conditions that we identify, reducing information asymmetry reduces the cost of capital. Under other (less typical) conditions, this reduced informa-
Keyphrases
information asymmetry risk bearing capacity increased liquidity paper study cause maximum current price occurs large firm market making public information large investor undesirable effect initial information asymmetry information asymme-try future liquidity market maker increased demand current price
