Measuring the information content of disclosures : The role of return noise

Disclosure is of fundamental interest to accounting research. When the sign/magnitude of disclosed news is unclear, research infers the information content of disclosures using the ratio of return volatilities during disclosure event and non-event windows (Beaver, 1968). We show the ratio is associated with error because it also reflects return noise (due to microstructure frictions and mispricing). Much time series and cross-sectional variation in the ratio is due to variation in return noise. We use the exogenous shock to return noise created by the SEC's Tick Size Pilot program to confirm causality and to evaluate alternative approaches to control for the effect of return noise. The most promising approach is to use the difference, rather than the ratio, of return volatilities during event and non-event windows. We illustrate its benefits by re-examining the evidence relating to the 2004 amendments to Form 8-K filings