Two essays of my dissertation deal with the informational role of hedging, in particular focusing on its benefits arising from alleviating information asymmetry. The first essay examines the valuation benefits arising from hedging around equity issues, a setting where we argue the information asymmetry is particularly severe. Using equity issues conducted by U.S. multinational firms over 1992-2003, we find that the significantly positive relationship between hedging and market reaction to SEO announcement. The result remains robust after controlling for potential endogenous nature of hedging and using a measure of the extent of derivatives usage. Further evidence shows that hedging issuers have lower gross underwriting spreads and less severe post-issue underperformance than those experienced by non-hedging issuers. These findings substantiate that hedging effectively alleviates asymmetric information problems in equity offerings, thus lowering the cost of raising capital and the agency costs of overvalued equity.
The second essay examines the impact of hedging on market pricing future earnings. Using the future earnings response coefficient (FERC) model, we find that the current stock returns of hedging firms reflect more future earnings than does the stock returns of non-hedging firms. Further, hedging firms reflect more information about future cash flows and accruals in current stock returns. The result is robust to various robustness checks, such as controlling for potential omitted variables, separating loss firms from profit firms, and correcting potential endogeneity bias. We interpret these results as suggesting that hedging reduces investor uncertainty on earnings streams and thus enhances the stock market’s ability to anticipate/price the firms’ future earnings. The evidence confirms the informational role that hedging plays in mitigating asymmetric information concerning future expected profits between investors and managers.

ESSAY I: DOES HEDGING AFFECT THE VALUATION OF SEASONED EQUITY OFFERINGS?

Akerlof. G., 1970, The market for ‘lemons’: Quality and the market mechanism, Quarterly Journal of Economics 84, 488-500.
Allayannis, G. and J. P. Weston, 2001, The use of foreign currency derivatives and firm market value, Review of Financial Studies 14, 243-276.
Asquith, P., and D. W. Mullins, 1986, Equity issues and offering dilution, Journal of Financial Economics 15, 61-89.
Barber, B. M., and J. D. Lyon, 1997, Detecting long-run abnormal stock returns: The empirical power and specification of test Statistics, Journal of Financial Economics 43, 341-372.
Bayless, M. and S. Chaplinsky, 1996, Is there a window of opportunity for seasoned equity issuance? Journal of Finance 51, 253-278.
Brav, A., C. Geczy, and P. A. Gompers, 2000, Is the abnormal return following equity issuances anomalous? Journal of Financial Economics 56, 209-249.
Breeden, D. and S. Viswanathan, 1998, Why do firms hedge? An asymmetric information model, Working paper, Duke University.
Campa, J. and S. Kedia, 2002, Explaining the diversification discount, Journal of Finance 57, 1731 – 1762.
Carter, D. A., D. Rogers, and B. Simkins, 2006, Does fuel hedging make economic sense? The case of the U.S. airline industry, Financial Management 35, 53-86.
D’Mello, P. and S. P. Ferris, 2000, The information effects of analyst activity at the announcement of new equity issues, Financial Management 29, 78-95.
D’Mello, P., O. Tawatnuntachai, and D. Yaman, 2003, Does the sequence of seasoned equity offerings matter? Financial Management 32, 59-86.
DaDalt, P., G. D. Gay, and J. Nam, 2002, Asymmetric information and corporate derivatives use, Journal of Futures Markets 22, 241-267.
DeMarzo, P. M. and D. Duffie, 1991, Corporate financial hedging with proprietary information, Journal of Economic Theory 53, 261-286.
DeMarzo, P. M. and D. Duffie, 1995, Corporate incentives for hedging and hedge accounting, Review of Financial Studies 8, 743-771.
Dierkens, N., 1991, Information asymmetry and equity issues, Journal of Financial and Quantitative Analysis 26, 181-199.
Denis, D. J., 1994, Investment opportunities and the market reaction to equity offerings, Journal of Financial and Quantitative Analysis 29, 159-177.
Froot, K. A., D. S. Scharfstein, and J. C. Stein, 1993, Risk management: Coordinating corporate investment and financing policies, Journal of Finance 48, 1629-1658.
Geczy, C., B. A. Minton, and C. Schrand, 1997, Why firms use currency derivatives, Journal of Finance 52, 1323-1354.
Graham, J. R. and D. A. Rogers, 2002, Is corporate hedging consistent with value maximization? An empirical analysis, Journal of Finance 57, 815-840.
Jegadeesh, N., M. Weinstein, and I. Welch, 1993, An empirical investigation of IPO returns and subsequent equity offerings, Journal of Financial Economics 34, 153-175.
Jensen, M., 2005, Agency costs of overvalued equity, Financial Management 34, 5-19.
Jin, Y. and P. Jorion, 2006, Firm value and hedging: Evidence from U.S. Oil and Gas producers, Journal of Finance 61, 893-919.
Jung, K., Y. C. Kim, and R. M. Stulz, 1996, Timing, investment opportunities, managerial discretion, and the security issue decision, Journal of Financial Economics 42, 159-185.
Korajczyk, R. A., D. J. Lucas, and R. L. McDonald, 1991, The effect of information releases on the pricing and timing of equity issues, Review of Financial Studies 4, 685-708.
Korajczyk, R. A., D. J. Lucas, and R. L. McDonald, 1992, Equity issues with time-varying asymmetric information, Journal of Financial and Quantitative Analysis 27, 397-417.
Krishnaswami, S. and V. Subramaniam, 1999, Information asymmetry, valuation, and the corporate spinoff decision, Journal of Financial Economics 53, 73-112.
Loughran, T. and J. R. Ritter, 1995, The new issues puzzle, Journal of Finance 50, 23-51.
Loughran, T. and J. R. Ritter, 1997, The operating performance of firms conducting seasoned equity offerings, Journal of Finance 52, 1823-1850.
Masulis, R. W. and A. N. Korwar, 1986, Seasoned equity offerings: An empirical investigation, Journal of Financial Economics 15, 91-118.
McLaughlin, R., A. Safieddine, and G. Vasudevan, 1998, The information content of corporate offerings of seasoned securities, Financial Management 27, 31-45.
Miller, M. and K. Rock, 1985, Dividend policy under asymmetric information, Journal of Finance 40, 1031-1051.
Mitchell, M. and E. Stafford, 2000, Managerial decisions and long-term stock price performance, Journal of Business 73, 287-329.
Myers, S. and N. Majluf, 1984, Corporate financing and investment decision when firms have information investors do not have, Journal of Financial Economics 13, 187-221.
Neyman, J. and E. Pearson, 1928, On the use and interpretation of certain test criteria for purposes of statistical inference, Biometrica 20A, 175-240.
Smith, C., 1977, Alternative methods for raising capital: Rights versus underwritten offerings, Journal of Financial Economics 5, 273-307.
Smith, C. W. and R. M. Stulz, 1985, The determinants of firms' hedging policies, Journal of Financial and Quantitative Analysis 20, 391-140.
Spiess, D. K. and J. Affleck-Graves, 1995, Underperformance in long-run stock returns following seasoned equity offerings, Journal of Financial Economics 38, 243-267.
Stulz, R. M., 1984, Optimal hedging policies, Journal of Financial and Quantitative Analysis 19, 127-140.
Teoh, S. H., I. Welch, and T. J. Wong, 1998, Earnings management and the post-issue underperformance of seasoned equity offerings, Journal of Financial Economics 50, 63-99.
Tufano, P., 1996, Who manages risk? An empirical examination of risk management practices in the gold mining industry, Journal of Finance 51, 1097-1137.

ESSAY II: CORPORATE HEDGING POLICY AND THE INFORMATIVE- NESS OF STOCK PRICES

Ali, A. and P. Zarowin, 1992, Permanent versus transitory components of annual earnings and estimation error in earnings response coefficients, Journal of Accounting and Economics 15, 249-264.
Allayannis, G. and J. P. Weston, 2001, The use of foreign currency derivatives and firm market value, Review of Financial Studies 14, 243-276.
Ayers, B. C. and R. N. Freeman, 2003, Evidence that analyst following and institutional ownership accelerate the pricing of future earnings, Review of Accounting Studies 8, 47-67.
Barton, J., 2001, Does the use of financial derivatives affect earnings management decisions? The Accounting Review 76, 1-26.
Breeden, D. and S. Viswanathan, 1998, Why do firms hedge? An asymmetric information model, Working paper, Duke University.
Carter, D. A., D. Rogers, and B. Simkins, 2006, Does fuel hedging make economic sense? The case of the U.S. airline industry, Financial Management 35, 53-86.
Christensen, J. and J. Demski, 2002, Accounting theory: An information content perspective, 1st Edition, McGraw-Hill/Irwin: New York.
Collins, D. W., S. P. Kothari, J. Shanken, and R. Sloan, 1994, Lack of timeliness and noise as explanations for the low contemporaneous return-earnings association, Journal of Accounting and Economics 18, 289-324.
DaDalt, P., G. D. Gay, and J. Nam, 2002, Asymmetric information and corporate derivatives use, Journal of Futures Markets 22, 241-267.
Dechow, P., R. Sloan, and A. Sweeney, 1995, Detecting earnings management, The Accounting Review 70, 193-225.
DeMarzo, P. M. and D. Duffie, 1991, Corporate financial hedging with proprietary information, Journal of Economic Theory 53, 261-286.
DeMarzo, P. M. and D. Duffie, 1995, Corporate incentives for hedging and hedge accounting, Review of Financial Studies 8, 743-771.
Ettredge, M. L., S. Y. Kwon, D. B. Smith, and P. A. Zarowin, 2005, The impact of SFAS No.131 business segment data on the market’s ability to anticipate future earnings, The Accounting Review 80, 773-804.
Froot, K. A., D. S. Scharfstein, and J. C. Stein, 1993, Risk management: Coordinating corporate investment and financing policies, Journal of Finance 48, 1629-1658.
Geczy, C., B. A. Minton, and C. Schrand, 1997, Why firms use currency derivatives, Journal of Finance 52, 1323-1354.
Gelb, D. S. and P. A. Zarowin, 2002, Corporate disclosure policy and the informativeness of stock prices, Review of Accounting Studies 7, 33-52.
Graham, J. R. and D. A. Rogers, 2002, Is corporate hedging consistent with value maximization? An empirical analysis, Journal of Finance 57, 815-840.
Guay, W. and S. P. Kothari, 2003, How much do firms hedge with derivatives? Journal of Financial Economics 70, 423-461.
Hanlon, M., J. N. Myers, and T. J. Shevlin, 2007, Are dividends informative about future earnings, Working Paper, University of Washington.
Haushalter, G. D., 2000, Financing policy, basis risk, and corporate hedging: Evidence from oil and gas producers, Journal of Finance 55, 107-152.
Holthausen, R. W. and R. E. Verrecchia, 1988, The effect of sequential information releases on the variance of price changes in an intertemporal multi-asset market, Journal of Accounting Research 26, 82-106.
Jin, Y. and P. Jorion, 2006, Firm value and hedging: Evidence from U.S. Oil and Gas producers, Journal of Finance 61, 893-919.
Kothari, S. P., 2001, Capital markets research in accounting, Journal of Accounting and Economics 31, 105-231.
Kothari, S. P. and R. G. Sloan, 1992, Information in prices about future earnings: implications for earnings response coefficients, Journal of Accounting and Economics 15, 143-171.
Lundholm, R. and L. Myers, 2002, Bringing the future forward: The effect of disclosure on the returns-earnings relation, Journal of Accounting Research 40, 809-839.
Nance, D. R., C. W. Smith, and C. W. Smithson, 1993, On the determinants of corporate hedging, Journal of Finance 48, 267-284.
Oswald, D. R. and P. A. Zarowin, 2007, Capitalization of R&D and the informativeness of stock prices, European Accounting Review 16, 703-726.
Piotroski, J. and D. Roulstone, 2004, The influence of analysts, institutional investors, and insiders on the incorporation of market, industry, and firm-specific information into stock prices, The Accounting Review 79, 1119-1151.
Smith, C. W. and R. M. Stulz, 1985, The determinants of firms' hedging policies, Journal of Financial and Quantitative Analysis 20, 391-140.
Tucker, X. J. and P. A. Zarowin, 2006, Does income smoothing improve earnings informativeness? The Accounting Review 81, 251-270.
Tufano, P., 1996, Who manages risk? An empirical examination of risk management practices in the gold mining industry, Journal of Finance 51, 1097-1137.
Veronesi, P., 1999, Stock market overreaction to bad news in good times: A rational expectations equilibrium model, Review of Financial Studies 12, 975-1007.