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Effects of opportunistic behaviors on security markets: an experimental approach to insider trading and earnings management

Author

Listed:
  • Esther B. Brio

    (University of Salamanca (IME))

  • Ilidio Lopes-e-Silva

    (Polytechnic Institute of Viseu)

  • Javier Perote

    (University of Salamanca (IME))

Abstract

The current paper produces the very first experiment on the relationship between insider trading and earnings management in an unregulated scenario, where the decision of misreporting only depends on ethical considerations. Using a price formation model based upon the excess of supply/demand, but also on the difference between the reported and real earnings of the firm, our results indicate that (1) insiders systematically misreport earnings, (2) earnings management is perceived as a self-dealing strategy, (3) insiders time opportunistically their transactions, thus, achieving higher returns than outsiders, and (4) insider information is not properly conveyed in prices, what erodes market efficiency. Therefore, earnings management and insider trading induce inefficiencies on stock prices and affect the reliability and confidence on financial markets. We thus advocate for the enforcement of financial market regulation since the ethical reasoning of investors is not enough to prevent opportunistic practices.

Suggested Citation

  • Esther B. Brio & Ilidio Lopes-e-Silva & Javier Perote, 2016. "Effects of opportunistic behaviors on security markets: an experimental approach to insider trading and earnings management," Economia Politica: Journal of Analytical and Institutional Economics, Springer;Fondazione Edison, vol. 33(3), pages 379-402, December.
    • Handle: RePEc:spr:epolit:v:33:y:2016:i:3:d:10.1007_s40888-016-0036-0
    DOI: 10.1007/s40888-016-0036-0
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    More about this item

    Keywords

    Insider trading; Earnings management; Opportunistic behavior; Laboratory experiment; Market efficiency;
    All these keywords.

    JEL classification:

    • C91 - Mathematical and Quantitative Methods - - Design of Experiments - - - Laboratory, Individual Behavior
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading

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