Debt Signaling

AAA

DEFINITION of 'Debt Signaling'

A theory that states that an announcement regarding a firm's debt can be used as a signal of the stock's future performance. A company announcement regarding the issuance of debt is said to signal positive news, while an announcement that states that debt will be taken on at a future date is said to be a negative signal about the company.

INVESTOPEDIA EXPLAINS 'Debt Signaling'

When a company agrees to take on more debt, it is making a commitment to pay interest on the debt. In doing so, it is showing that the company is in a stable financial situation. Conversely, when the amount of future debt is reduced, investors may see this as a sign that the company is unable to make its interest payments and is in a weak financial situation.

Studies regarding debt announcements and the signals they provide have shown statistically significant results that this theory does actually occur in real life. Subsequently, the theory has been used by proponents of the inefficient market hypothesis.

RELATED TERMS
  1. Behavioral Finance

    A field of finance that proposes psychology-based theories to ...
  2. Insider Information

    A non-public fact regarding the plans or condition of a publicly ...
  3. Random Walk Theory

    The theory that stock price changes have the same distribution ...
  4. Signaling Approach

    The idea that insiders have information not available to the ...
  5. Inefficient Market

    A theory which asserts that the market prices of common stocks ...
  6. Market Psychology

    The overall sentiment or feeling that the market is experiencing ...
Related Articles
  1. Understanding Investor Behavior
    Active Trading Fundamentals

    Understanding Investor Behavior

  2. What Is Market Efficiency?
    Active Trading

    What Is Market Efficiency?

  3. Efficient Market Hypothesis: Is The ...
    Active Trading Fundamentals

    Efficient Market Hypothesis: Is The ...

  4. How Low-Volatility ETFs Can Enhance ...
    Investing News

    How Low-Volatility ETFs Can Enhance ...

comments powered by Disqus
Hot Definitions
  1. Last In, First Out - LIFO

    An asset-management and valuation method that assumes that assets produced or acquired last are the ones that are used, sold ...
  2. Ghosting

    An illegal practice whereby two or more market makers collectively attempt to influence and change the price of a stock. ...
  3. Elasticity

    A measure of a variable's sensitivity to a change in another variable. In economics, elasticity refers the degree to which ...
  4. Tangible Common Equity - TCE

    A measure of a company's capital, which is used to evaluate a financial institution's ability to deal with potential losses. ...
  5. Yield To Maturity (YTM)

    The rate of return anticipated on a bond if held until the maturity date. YTM is considered a long-term bond yield expressed ...
  6. Net Present Value Of Growth Opportunities - NPVGO

    A calculation of the net present value of all future cash flows involved with an additional acquisition, or potential acquisition. ...
Trading Center