Collateral effects of securities enforcement in emerging financial markets: Evidence from MSCI-LATAM countries
Financial authorities have traditionally relied on fines, suspensions, and bars to discipline misconduct in financial markets and, in that way, protect public investors and promote financial development. In theory, these sanctions should be sufficiently high to internalize the social cost of wrongdoing and deter future misbehavior. In practice, however, public firms are often criticized for being under-punished. This concern has motivated a line of research, especially in the United States, to examine whether enforcement actions initiated by public authorities generate negative indirect effects for the firms accused of misbehavior and, therefore, whether those effects supplement the regulatory sanction. In general, the answer to this question is positive under certain circumstances. Whether or not firms also suffer collateral effects in emerging financial markets, however, is a question that has received little attention in the literature. The purpose of this work is therefore to make a first step to fill this gap. Addressing this gap is important because emerging markets are smaller, less liquid, and more concentrated than the United States’ financial market, which might neutralize the side financial effects of enforcement that prior studies have documented. As a result, the policy recommendations proposed in the prior literature are not necessarily applicable to emerging economies. This work focuses on three specific types of collateral effects: the effect of enforcement on (1) the defendant’s stock price, (2) the defendant’s operating performance, and (3) the cost of external financing. In terms of types of violations and sample countries, this work focuses on enforcement actions triggered by securities regulation violations in the five countries that form the MSCI-EC-LATAM index (Morgan Stanley Capital International Emerging Markets Index – Latin America). The results indicate that the stock price and operating performance of firms whose insiders were sanctioned for insider trading decline significantly after the imposition of the sanction. These results have various implications for the regulation of official penalties as a tool to promote financial development.
Securities enforcement, Collateral effects, Emerging markets
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