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The Twilight Zone: OTC Regulatory Regimes and Market Quality

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  • Bruggemann, Ulf

    (Humboldt University of Berlin)

  • Kaul, Aditya

    (University of Alberta)

  • Leuz, Christian

    (University of Chicago and University of PA)

  • Werner, Ingrid M.

    (OH State University)

Abstract

We analyze a comprehensive sample of more than 10,000 U.S. stocks in the OTC market. As little is known about this market, we first characterize OTC firms by trading venue and provide evidence on survival, success, frequency of venue changes, reporting status, and trading activity. A large number of new firms appear on the OTC market each year. With few exceptions, these new firms exhibit poor performance and rarely rise to trade on traditional exchanges. We analyze how market liquidity, price efficiency and crash risk, all of which capture aspects of market quality, differ across OTC venues and firms subject to different regulatory regimes, including federal securities and state blue sky laws. We show that OTC firms that are subject to stricter regulatory regimes have higher market liquidity and price efficiency, and lower return skewness. We also analyze OTC market features that are potential substitutes for SEC registration, such as publication in a securities manual or state merit reviews, and provide evidence on their capital-market effects. This evidence is relevant in light of the JOBS Act and the ensuing relaxation of SEC registration requirements. Overall, our results suggest that investors consider information and regulatory differences when trading OTC stocks.

Suggested Citation

  • Bruggemann, Ulf & Kaul, Aditya & Leuz, Christian & Werner, Ingrid M., 2013. "The Twilight Zone: OTC Regulatory Regimes and Market Quality," Working Paper Series 2013-09, Ohio State University, Charles A. Dice Center for Research in Financial Economics.
  • Handle: RePEc:ecl:ohidic:2013-09
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    References listed on IDEAS

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    1. Michael Greenstone & Paul Oyer & Annette Vissing-Jorgensen, 2006. "Mandated Disclosure, Stock Returns, and the 1964 Securities Acts Amendments," The Quarterly Journal of Economics, Oxford University Press, vol. 121(2), pages 399-460.
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    3. Leuz, Christian, 2007. "Was the Sarbanes-Oxley Act of 2002 really this costly? A discussion of evidence from event returns and going-private decisions," Journal of Accounting and Economics, Elsevier, vol. 44(1-2), pages 146-165, September.
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    8. Ross, Stephen A, 1989. " Information and Volatility: The No-Arbitrage Martingale Approach to Timing and Resolution Irrelevancy," Journal of Finance, American Finance Association, vol. 44(1), pages 1-17, March.
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    JEL classification:

    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets
    • G30 - Financial Economics - - Corporate Finance and Governance - - - General
    • K22 - Law and Economics - - Regulation and Business Law - - - Business and Securities Law
    • M41 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Accounting - - - Accounting
    • M48 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Accounting - - - Government Policy and Regulation

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