Asset securitization characteristics and annual report narrative disclosure readability

Abstract This study examines whether asset securitizations affect the narrative disclosure readability of a bank holding company’s (BHC’s) annual report. The empirical results show that BHCs securitizing more loans or holding more retained interests have lower annual report readability. In addition, we find that the effects of securitized loans on annual report readability is through the channel of earnings management, especially for mortgage loans (namely low risk loans). We also find that (1) the effects of securitized mortgage loans and their retained interests on annual report readability are strengthened following the regulatory changes under SFAS No. 166/167 (2009), due to requirements to measure retained interests at fair value, potentially consolidate variable interest entities (VIEs) into the financial statements, and disclose substantial quantitative information; (2) the effects of securitized consumer loans—characterized by their inherently high-risk, short-term volatility and revolving features—as well as all types of retained interests, which face default loss absorption pressure, are amplified during the subprime crisis period; and (3) the effects of the retained interests of high (low) risk and low (high) verifiability securitized loans on annual report readability become weaker (stronger) when auditor presents an unqualified opinion; Finally, the results are still robust when considering endogeneity issues, employing another model specification, and using other annual report readability proxies.