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Review of Accounting Studies Vol. 28 No. 4 2023

What can we learn about credit risk from debt valuation adjustments?

Wen C. Lin1; Argyro Panaretou2; Grzegorz Pawlina2; Catherine Shakespeare3

1 Central University of Finance and Economics · 2 Lancaster University · 3 University of Michigan–Ann Arbor

open access

Abstract

Motivated by the debate about the introduction of the fair value option for (financial) liabilities (FVOL) and the requirement to recognize and separately disclose in financial statements debt valuation adjustments (DVAs), this study explores what we can learn about a firm’s credit risk from DVAs. Using a sample of US bank holding companies that elect the FVOL, we show that DVAs generally cannot be explained by the same factors that explain contemporaneous changes in bank’s credit quality. We further find that DVAs can explain future changes in credit risk when the fair value of liabilities is based on managerial inputs (Level 3). Overall our results suggest that managers have an information advantage in estimating credit risk and that DVAs provide inside information to the market.

DOI
10.1007/s11142-022-09705-0
Volume
28
Issue
4
Pages
2556-2588
Language
en
Sources
openalex crossref bibtex:phds-export.bib

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