Essays in the role of rational inattention and 10-K's disaggregation quality on asset prices

Abstract

This dissertation consists of two essays in the role of rational inattention and 10-K’s disaggregation quality on asset prices. In the first chapter, I hypothesize and test that when investors pay less attention to financial markets, they rationally allocate relatively more attention to market-level information than to firm-specific information, leading to increases in stock return co-movements. Using large jackpot lotteries as exogenous shocks that attract investors’ attention away from the stock market, I find supportive evidence that stock returns co-move more with the market on large jackpot days. This effect is stronger for stocks preferred by retail investors and is not driven by gambling sentiment. I also find that stock returns are less sensitive to earnings surprises and co-move more with industries on large jackpot days. In the second chapter, I investigate the information content of items that should be reported but are missing in 10-K reports regarding firms’ future performance. I propose that the disaggregation quality (DQ) of 10-K reports, which measures the detail of accounting information based on a count of non-missing Compustat line items, is valuable in predicting firms’ future performance. Empirical results show that firms with higher DQ have higher subsequent profitability and valuation. The DQ can also positively predict future stock returns in the cross section. The return predictability is stronger for young firms, firms with higher return volatility, and in periods with high investor sentiment. The findings are robust to the inclusion of variables shown to be correlated with firm operating and stock performance in the literature.