The Information Content of Stock Markets: Why Do Emerging Markets Have So Little Firm-Specific Risk?

Stock prices in emerging economies move in step much more than in advanced economies. Emerging markets' prices capitalize less firm specific information, and appear subject to more economy-wide fluctuations. Measures of this consonance of stock returns are positively correlated with indicators of poor property rights protection, inefficient legal systems and corrupt government. Lax accounting standards strengthen these correlations, but do not have an independent effect. We argue that property rights, judicial efficiency, clean government and meaningful accounting information let stock markets process information and allocate capital better, and thus contribute to economic growth. The absence of these factors may discourage informed trading and foster noise trading.