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. Signaling Approach

    The idea that insiders have information not available to the ...
  3. Market Psychology

    The overall sentiment or feeling that the market is experiencing ...
  4. Inefficient Market

    A theory which asserts that the market prices of common stocks ...
  5. Random Walk Theory

    The theory that stock price changes have the same distribution ...
  6. Insider Information

    A non-public fact regarding the plans or condition of a publicly ...
RELATED FAQS
  1. How do I calculate a modified duration using Matlab?

    The modified duration gauges the sensitivity of the fixed income securities to changes in interest rates. To calculate the ... Read Full Answer >>
  2. How do I calculate the rule of 72 using Matlab?

    In finance, the rule of 72 is a useful shortcut to assess how long it takes an investment to double given its annual growth ... Read Full Answer >>
  3. How do I calculate the standard error using Matlab?

    In statistics, the standard error is the standard deviation of the sampling statistical measure, usually the sample mean. ... Read Full Answer >>
  4. How do I adjust the rule of 72 for higher accuracy?

    The rule of 72 refers to a time value of money formula that investors use to calculate how quickly an investment will double ... Read Full Answer >>
  5. What is the difference between managerial accounting and financial accounting?

    In simple terms, managerial accounting exists to help managers make internal decisions that affect an organization, whereas ... Read Full Answer >>
  6. How does discretionary income relate to autonomous consumption?

    Discretionary income is money that purchases things beyond what one garners through autonomous consumption, which is the ... Read Full Answer >>
Related Articles
  1. Active Trading Fundamentals

    Understanding Investor Behavior

    Discover how some strange human tendencies can play out in the market, posing the question: are we really rational?
  2. Active Trading

    What Is Market Efficiency?

    The efficient market hypothesis (EMH) suggests that stock prices fully reflect all available information in the market. Is this possible?
  3. Active Trading Fundamentals

    Efficient Market Hypothesis: Is The Stock Market Efficient?

    Deciding whether it's possible to attain above-average returns requires an understanding of EMH.
  4. Economics

    Understanding Limited Liability

    Limited liability is a legal concept that protects equity owners from personal losses due to their ownership interest in the company.
  5. Fundamental Analysis

    Explaining the Empirical Rule

    The empirical rule provides a quick estimate of the spread of data in a normal statistical distribution.
  6. Economics

    Explaining Demographics

    Demographics is the study and categorization of people based on factors such as income level, education, gender, race, age, and employment.
  7. Fundamental Analysis

    Calculating Degree of Financial Leverage

    Degree of financial leverage (DFL) is a metric that measures the sensitivity of a company’s operating income due to changes in its capital structure.
  8. Economics

    What Does Capital Intensive Mean?

    Capital intensive refers to a business or industry that requires a substantial amount of money or financial resources to engage in its specific business.
  9. Trading Strategies

    Why Volatility Is Your Friend

    Instead of looking at falling share prices as something negative, investors should view it as an opportunity to acquire ownership in fundamentally strong companies at low prices.
  10. Stock Analysis

    Are These America's 5 Best CEOs?

    Do great leaders lead to great investment opportunities? Here's a few to consider.

You May Also Like

Hot Definitions
  1. National Currency

    The currency or legal tender issued by a nation's central bank or monetary authority. The national currency of a nation is ...
  2. Treasury Yield

    The return on investment, expressed as a percentage, on the debt obligations of the U.S. government. Treasuries are considered ...
  3. Bund

    A bond issued by Germany's federal government, or the German word for "bond." Bunds are the German equivalent of U.S. Treasury ...
  4. European Central Bank - ECB

    The central bank responsible for the monetary system of the European Union (EU) and the euro currency. The bank was formed ...
  5. Quantitative Easing

    An unconventional monetary policy in which a central bank purchases private sector financial assets in order to lower interest ...
  6. Current Account Deficit

    A measurement of a country’s trade in which the value of goods and services it imports exceeds the value of goods and services ...
Trading Center
×

You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!