ANALYZING FINANCIAL INSTITUTIONS AND MISCONDUCT: DO MISCONDUCT RELATED EVENTS FOLLOWED BY SEC ENFORCEMENT ACTIONS HAVE AN IMPACT ON THE REPUTATION OF FINANCIAL INSTITUTIONS?

Open Access
Author:
Gross, Sarah
Area of Honors:
Finance
Degree:
Bachelor of Science
Document Type:
Thesis
Thesis Supervisors:
  • Christoph Hinkelmann, Thesis Supervisor
  • Brian Spangler Davis, Honors Advisor
Keywords:
  • Reputation Risk
  • Operational Risk
  • Event Study
  • Financial Crisis
  • SEC Enforcement Actions
  • Operational Loss
  • Misconduct
  • Cumulative Abnormal Returns
  • Market Value Impact
  • Financial Institutions
Abstract:
This paper analyzes the market value and reputational impact of the announcement of SEC enforcement actions related to the 2008 Financial Crisis on financial institutions by measuring Cumulative Abnormal Returns (CARs) over a specified event window. The decline in market capitalization in response to the announcement as measured by Cumulative Abnormal Returns over a specified event window should match the nominal amount of the SEC enforcement action as the market value represents the present value of expected future cash flows. However, if the market value declines by more than the announced SEC fine, the additional loss amount can be attributed to a “reputation loss”. Previous literature has measured the market value impact on general operational loss events prior to the 2008 Financial Crisis. This paper will more narrowly focus on operational losses due to SEC enforcement actions after the 2008 Financial Crisis. These actions could have been more predictable than other general operational losses analyzed in previous studies due to the awareness of misconduct during the financial crisis along with fines, litigation and penalties from other regulatory bodies. Additionally, positive or negative spillover effects in the financial services sector were analyzed in response to the announcement of the SEC enforcement actions. After analyzing 22 SEC enforcement actions related to the 2008 Financial Crisis, it was found on average there was no significant negative reputational impact. However, the announcements of the SEC enforcement actions on average had a negative impact on firm value. Additionally, individual firms with extremely negative and positive CARs were analyzed on a case by case basis and it was found that some firms faced a significant reputational impact. Common factors were found among firms that faced a larger negative or positive impact on firm value, such as type of enforcement action. In general, on average there is evidence of a negative market value impact in response to an announcement of an SEC enforcement action, while there is little evidence of reputational impact. However, there is evidence of the announcement of SEC enforcement actions for individual firms having a negative and positive impact on reputation of firms.