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What can we learn about credit risk from debt valuation adjustments?

Author

Listed:
  • Wen Lin

    (Central University of Finance and Economics)

  • Argyro Panaretou

    (Lancaster University)

  • Grzegorz Pawlina

    (Lancaster University)

  • Catherine Shakespeare

    (University of Michigan)

Abstract

Motivated by the debate about the introduction of the fair value option for (financial) liabilities (FVOL) and the requirement to recognize and separately disclose in financial statements debt valuation adjustments (DVAs), this study explores what we can learn about a firm’s credit risk from DVAs. Using a sample of US bank holding companies that elect the FVOL, we show that DVAs generally cannot be explained by the same factors that explain contemporaneous changes in bank’s credit quality. We further find that DVAs can explain future changes in credit risk when the fair value of liabilities is based on managerial inputs (Level 3). Overall our results suggest that managers have an information advantage in estimating credit risk and that DVAs provide inside information to the market.

Suggested Citation

  • Wen Lin & Argyro Panaretou & Grzegorz Pawlina & Catherine Shakespeare, 2023. "What can we learn about credit risk from debt valuation adjustments?," Review of Accounting Studies, Springer, vol. 28(4), pages 2556-2588, December.
    • Handle: RePEc:spr:reaccs:v:28:y:2023:i:4:d:10.1007_s11142-022-09705-0
    DOI: 10.1007/s11142-022-09705-0
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    More about this item

    Keywords

    Financial liabilities; Fair value option; Debt valuation adjustments; Credit risk;
    All these keywords.

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • M41 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Accounting - - - Accounting

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