ABSTRACT
Based on the theoretical framework of Lambert, Leuz, and Verrecchia (2007), I predict that higher earnings quality of economically related public firms reduces a firm's systematic market risk. Using alternative sets of economically related firms, this study provides significant evidence consistent with my prediction. Specifically, a conditional CAPM regression shows that not only a firm's earnings quality, but also the earnings quality of related public firms lowers the loading of firm excess return on the market factor. Regressions based on the three-factor model provide similar results. Further, I provide evidence on cross-sectional variations in the effect of related firms' earnings quality. These results are economically significant and robust in several additional tests. Overall, this study contributes to the literature by providing the first evidence on the long-term externalities of financial information quality in the capital market.
Data Availability: All analyses are based on publicly available data.
