Multiple Risk Measures: Investment and Disclosure Implications

This paper examines how posterior default probability influences firms' disclosures and asset prices distinctly relative to posterior variance. In the presence of limited liability, we predict that firms' disclosure probability decreases if and only if the posterior default probability (following a public signal) increases. In contrast, the posterior variance following a public signal has no impact on firms' disclosure policies. We further generate non-monotonic behavior of each of asset prices and disclosure probability in a variety of firms' operating characteristics. Moreover, our analysis predicts how the dispersion and consensus among analysts forecasting firms' earnings can influence firms' disclosure policies and asset prices, again in a non-monotonic fashion. These predictions are again based on distinct behavior of these two posterior risk measures, posterior default probability versus posterior variance