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Why do managers disclose risks accurately? Textual analysis, disclosures, and risk exposures

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  • Lopez-Lira, Alejandro

Abstract

I provide an economic model that justifies using bag-of-words, topic modeling, and machine learning techniques to measure firms’ risk exposures using the percentage they allocate to each risk in their financial statements. The model provides a theoretical set of sufficient conditions under minimal assumptions that make managers optimally disclose risk accurately and give more space to the most critical risks. I document that the SEC Regulation satisfies this set of sufficient theoretical conditions and induces rational managers to disclose risks truthfully.

Suggested Citation

  • Lopez-Lira, Alejandro, 2021. "Why do managers disclose risks accurately? Textual analysis, disclosures, and risk exposures," Economics Letters, Elsevier, vol. 204(C).
    • Handle: RePEc:eee:ecolet:v:204:y:2021:i:c:s0165176521001737
    DOI: 10.1016/j.econlet.2021.109896
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    References listed on IDEAS

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    5. Hassan, Tarek & Hollander, Stephan & van Lent, Laurence & Schwedeler, Markus & Tahoun, Ahmed, 2020. "Firm-Level Exposure to Epidemic Diseases: Covid-19, SARS, and H1N1," CEPR Discussion Papers 14573, C.E.P.R. Discussion Papers.
    6. Skinner, Douglas J., 1997. "Earnings disclosures and stockholder lawsuits," Journal of Accounting and Economics, Elsevier, vol. 23(3), pages 249-282, November.
    7. Yang Bao & Anindya Datta, 2014. "Simultaneously Discovering and Quantifying Risk Types from Textual Risk Disclosures," Management Science, INFORMS, vol. 60(6), pages 1371-1391, June.
    8. Loughran, Tim & McDonald, Bill & Pragidis, Ioannis, 2019. "Assimilation of oil news into prices," International Review of Financial Analysis, Elsevier, vol. 63(C), pages 105-118.
    9. Bodnaruk, Andriy & Loughran, Tim & McDonald, Bill, 2015. "Using 10-K Text to Gauge Financial Constraints," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 50(4), pages 623-646, August.
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    Cited by:

    1. Xu, Xiaodong & Mu, Yayu & Wang, Juan, 2023. "Corporate risk and financial asset holdings," Pacific-Basin Finance Journal, Elsevier, vol. 81(C).
    2. Fabian Stephany & Leonie Neuhäuser & Niklas Stoehr & Philipp Darius & Ole Teutloff & Fabian Braesemann, 2022. "The CoRisk-Index: a data-mining approach to identify industry-specific risk perceptions related to Covid-19," Palgrave Communications, Palgrave Macmillan, vol. 9(1), pages 1-15, December.

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    More about this item

    Keywords

    Optimal disclosure; Textual analysis; Machine learning; Risk disclosures; Risk factors;
    All these keywords.

    JEL classification:

    • C18 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Methodolical Issues: General
    • G00 - Financial Economics - - General - - - General
    • G30 - Financial Economics - - Corporate Finance and Governance - - - General
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • G38 - Financial Economics - - Corporate Finance and Governance - - - Government Policy and Regulation

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