The pricing of accruals quality in credit default swap spreads |
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| Authors: | Pervaiz Alam Xiaoling Pu Barry Hettler Hai Lin |
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| Institution: | 1. Department of Accounting, College of Business Administration, Kent State University, Kent, OH, USA;2. Department of Finance, College of Business Administration, Kent State University, Kent, OH, USA;3. School of Business Administration and Economics, The College at Brockport – State University of New York, Brockport, NY, USA;4. School of Economics and Finance, Victoria University of Wellington, Wellington, New Zealand |
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| Abstract: | We examine the association between accounting information risk, measured with accruals quality (AQ), and credit spreads, primarily measured with credit default swap (CDS) spreads. Theoretically, AQ measures the precision with which accruals map into cash flows. Better AQ implies a more precise estimate of future cash flows and, we predict, a reduction in credit spreads due to resulting lower uncertainty regarding the ability to meet debt interest and principal payments. In support of this hypothesis, we find a negative relationship between AQ and CDS spreads whereby better AQ is associated with lower CDS spreads. Additionally, we investigate the components of total AQ and find that innate AQ is more strongly associated with CDS spreads than is discretionary AQ. We further show that AQ moderates the market's pricing of earnings: the relationship between earnings and CDS spreads weakens as AQ worsens. Together, our results indicate that accounting information risk is priced in credit spreads and that the CDS market responds not only to the level of earnings, but the quality thereof as well. |
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| Keywords: | CDS spreads Information risk Accruals quality Innate accruals Discretionary accruals |
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