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Information asymmetry and the cost of equity capital

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  • He, William Peng
  • Lepone, Andrew
  • Leung, Henry

Abstract

This study examines the relation between information asymmetry and the cost of equity capital of firms listed on the Australian Securities Exchange. We calculate the ex ante cost of equity capital for constituent companies of the S&P/ASX 200 Index. The bid–ask spread of the companies is decomposed to find the adverse selection component, which is used to measure the information asymmetry of the company. We control for factors generally known to influence the required return on equity, such as sector, beta, firm size, book-to-market, analyst coverage and analyst earnings forecast dispersion. This study documents a significant and positive relation between information asymmetry and ex ante investor's required rate of return. We also find that earnings forecast dispersion increases ex ante cost of equity capital, while analyst coverage tends to decrease the return required by investors. This is consistent with the expectation that cost of capital increases with higher levels of information uncertainty and asymmetry.

Suggested Citation

  • He, William Peng & Lepone, Andrew & Leung, Henry, 2013. "Information asymmetry and the cost of equity capital," International Review of Economics & Finance, Elsevier, vol. 27(C), pages 611-620.
  • Handle: RePEc:eee:reveco:v:27:y:2013:i:c:p:611-620 DOI: 10.1016/j.iref.2013.03.001
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    Cited by:

    1. Luo, Qi & Li, Hui & Zhang, Biao, 2015. "Financing constraints and the cost of equity: Evidence on the moral hazard of the controlling shareholder," International Review of Economics & Finance, Elsevier, vol. 36(C), pages 99-106.
    2. Chen, Lin & Qin, Lu & Zhu, Hongquan, 2015. "Opinion divergence, unexpected trading volume and stock returns: Evidence from China," International Review of Economics & Finance, Elsevier, vol. 36(C), pages 119-127.
    3. Márquez, Elena & Nieto, Belén & Rubio, Gonzalo, 2014. "Stock returns with consumption and illiquidity risks," International Review of Economics & Finance, Elsevier, vol. 29(C), pages 57-74.
    4. Fosu, Samuel & Danso, Albert & Ahmad, Wasim & Coffie, William, 2016. "Information asymmetry, leverage and firm value: Do crisis and growth matter?," International Review of Financial Analysis, Elsevier, vol. 46(C), pages 140-150.
    5. Al-Hadi, Ahmed & Taylor, Grantley & Hossain, Mahmud, 2015. "Disaggregation, auditor conservatism and implied cost of equity capital: An international evidence from the GCC," Journal of Multinational Financial Management, Elsevier, vol. 29(C), pages 66-98.
    6. Shen, Carl Hsin-han, 2014. "Pecking order, access to public debt market, and information asymmetry," International Review of Economics & Finance, Elsevier, vol. 29(C), pages 291-306.
    7. Natalia Kelchevskaya & Ilia Chernenko & Ekaterina Popova, 2017. "The Impact of Corporate Social Responsibility on the Investment Attractiveness of the Russian Companies," Economy of region, Centre for Economic Security, Institute of Economics of Ural Branch of Russian Academy of Sciences, vol. 1(1), pages 157-169.
    8. Lopomo Beteto Wegner, Danilo, 2015. "Government insurance, information, and asset prices," International Review of Economics & Finance, Elsevier, vol. 37(C), pages 165-183.

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