Processing Fluency and Investors’ Reactions to Disclosure Readability

Authors


  • Accepted by Abbie Smith. I thank my dissertation committee members: Robert Libby (chair), Robert Bloomfield, Jay Russo, and Steven Schwager for their valuable guidance and advice. I also thank Chris Agoglia, Scott Asay, Sanjeev Bhojraj, Tim Brown, Brooke Elliott, Jeffrey Hales, Vicky Hoffman, Kevin Jackson, Karim Jamal, Steve Kachelmeier, Bill Kinney, Lisa Koonce, Tamara Lambert, Don Moser, Mark Nelson, Mark Peecher, David Piercey, Nick Seybert, Abbie Smith, Shankar Venkataraman, Michael Williamson, Holly Yang, an anonymous reviewer, and workshop participants at the University of Alberta, University of Chicago, Cornell University, Georgia Institute of Technology, University of Illinois at Urbana–Champaign, University of Iowa, University of Massachusetts–Amherst, University of Pittsburgh, and the University of Texas at Austin for helpful comments and discussions. I gratefully acknowledge financial support from Cornell University's Johnson Graduate School of Management, the University of Illinois at Urbana–Champaign, and the Deloitte Foundation.

ABSTRACT

The SEC's emphasis on the use of plain English is designed to make disclosures more readable and more informative. Using an experiment, I find that more readable disclosures lead to stronger reactions from small investors, so that changes in valuation judgments are more positive when news is good and more negative when news is bad. Drawing on research in psychology to explain this result, I predict and find that processing fluency from a more readable disclosure acts as a subconscious heuristic cue and increases investors’ beliefs that they can rely on the disclosure. Although I do not find that more readable disclosures directly increase perceptions of management credibility, I do find evidence of an indirect effect operating through feelings of processing fluency. In supplemental analyses, I find that investors who receive more readable disclosures revise their valuation judgments to be less extreme when they are explicitly made aware of the potential for variation in readability. I discuss potential explanations for these revised valuation judgments.

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