Voluntary Disclosure and Liquidity: Evidence from Index Funds.

Abstract

Index funds trade for nonstrategic reasons because their clients’ personal liquidity needs primarily drive fund flows. These funds are thus unambiguously more likely than strategic traders to prefer high stock liquidity, and thus high disclosure, to reduce trading costs. I hypothesize that index funds’ ownership stakes give them power to elicit more disclosure from management. I use an index fund setting to construct an empirical model of voluntary disclosure, and find that when index funds join a firm due to its S&P 500 index inclusion, the size of their ownership stake is associated with an increase in disclosure, and this increase in disclosure is associated with higher stock liquidity (relative to a control firm). These results suggest that disclosure increases stock liquidity.