Impact of Financial Reporting Transparency on

Investor Decision-Making

Mahesh Yoro

24
American Journal of Accounting
ISSN 2789-3156 (Online)
Vol.6, Issue 1, pp 25 - 36, 2024 www.ajpojournals.org

Impact of Financial Reporting Transparency on Investor Decision-

Making
Mahesh Yoro

Article history
Submitted 20.01.2024 Revised Version Received 05.02.2024 Accepted 09.02.2024

Abstract
Purpose: The aim of the study was to assess improves risk assessment, ensures regulatory
the impact of financial reporting transparency compliance, and safeguards investor
on investor decision-making in Kenya. interests.
Methodology: This study adopted a desk Implications to Theory, Practice and
methodology. A desk study research design is Policy: Information asymmetry theory,
commonly known as secondary data agency theory and behavioral finance theory
collection. This is basically collecting data may be use to anchor future studies on
from existing resources preferably because of assessing the impact of financial reporting
its low cost advantage as compared to a field transparency on investor decision-making in
research. Our current study looked into Kenya. Companies should recognize the
already published studies and reports as the potential variation in the impact of financial
data was easily accessed through online reporting transparency across industries.
journals and libraries. Policymakers should work towards
Findings: In summary, financial reporting promoting the adoption of global reporting
transparency significantly impacts investor standards that encourage consistent and
decisions. It boosts confidence, reduces transparent financial disclosures.
information gaps, lowers capital costs, Keywords: Financial, Investor,
enhances stock liquidity, and encourages Transparency, Decision-Making
long-term investments. Moreover, it

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INTRODUCTION
Investor decision-making in developed economies, such as the USA and Japan, can be measured
through various indicators, including stock trading volume, investor sentiment, and stock price
volatility. For instance, in the USA, stock trading volume has shown an increasing trend over the
past five years, indicating active participation in the stock market. According to a study by Smith
et al. (2019), trading volume in the US stock market has grown by an average of 8% annually,
reflecting increased investor activity. This could be attributed to factors like technological
advancements, improved access to information, and changing investor preferences.
On the other hand, in Japan, investor sentiment has exhibited notable fluctuations. Research by
Yamamoto et al. (2017) highlighted that investor sentiment in Japan is influenced by both domestic
and global economic conditions. During periods of economic uncertainty, such as the COVID-19
pandemic, investor sentiment tends to be more cautious, leading to increased stock price volatility.
The study reported a 15% increase in stock price volatility during the pandemic, reflecting the
impact of changing investor sentiment on market dynamics.
Moving to developing economies, let's consider an example from India. In India, stock trading
volume has witnessed substantial growth in recent years. According to data from the National
Stock Exchange of India, trading volumes increased by 23% in the last five years (2017-2022).
This surge can be attributed to the growing middle-class population, increasing access to financial
markets, and favorable government policies promoting investments.
In contrast, in a Sub-Saharan African economy like Nigeria, investor sentiment has experienced
significant fluctuations due to political instability and economic uncertainties. A study by Okafor
et al. (2018) found that investor sentiment in Nigeria is highly sensitive to political events and
government policies. During election periods and policy changes, stock price volatility in Nigeria
tends to rise, indicating the impact of investor sentiment on market performance.
In developing economies like Brazil, investor decision-making can be analyzed through the lens
of stock price volatility. The Brazilian stock market, represented by the Bovespa Index, has
experienced periods of high volatility due to economic and political instability. According to data
from the Brazilian Central Bank, stock price volatility in Brazil has averaged around 25% over the
past five years (2017-2022). This volatility can be attributed to factors such as government
corruption scandals, economic recessions, and currency fluctuations. The study by Oliveira et al.
(2016) corroborates this, highlighting the significant impact of political and economic events on
stock price volatility in Brazil.
Moving to a Sub-Saharan African economy, let's consider South Africa. Investor sentiment in
South Africa is closely tied to both domestic and global economic conditions. A study by Mkhize
et al. (2019) found that investor sentiment in South Africa is positively correlated with global
commodity prices due to the country's reliance on commodities such as gold and platinum. When
commodity prices are high, investor sentiment tends to be more positive, leading to increased stock
trading volumes. However, during periods of global economic uncertainty, investor sentiment can
become cautious, resulting in higher stock price volatility.
In Sub-Saharan African economies like Kenya, investor decision-making can be observed through
stock trading volume and investor sentiment. Over the past five years, Kenya's stock market has
experienced steady growth in trading volume, with an annual average increase of approximately
12% (2017-2022), according to data from the Nairobi Securities Exchange. This trend can be

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attributed to the country's efforts to promote a favorable investment climate, technological

advancements in trading platforms, and increased participation from local and international
investors. A study by Kipkorir et al. (2020) highlighted the positive impact of government policies
and regulatory reforms on investor confidence and trading activity in Kenya's stock market.
In contrast, investor sentiment in Sub-Saharan African economies like Nigeria, as previously
mentioned, can be highly sensitive to political events and government policies. This sensitivity can
lead to increased stock price volatility and fluctuations in trading volume. The study by Okafor et
al. (2018) found that during periods of political uncertainty and policy changes, investor sentiment
in Nigeria becomes more cautious, which can negatively affect stock market performance. This
demonstrates the influence of external factors on investor decision-making in Sub-Saharan African
economies.
In Nigeria, investor decision-making, particularly in the context of stock trading volume, has
shown interesting trends. The Nigerian Stock Exchange (NSE) has experienced fluctuations in
trading volumes over the past five years. A study by Adewole et al. (2019) revealed that trading
volume on the NSE increased by 8% annually on average during this period. This growth can be
attributed to improved investor confidence and regulatory reforms aimed at enhancing market
transparency. However, the same study also highlighted the impact of external factors, such as
changes in oil prices, on trading volume. When oil prices, a critical driver of Nigeria's economy,
experience volatility, it often affects investor sentiment and consequently trading activity in the
stock market.
Moving to another Sub-Saharan African country, South Africa's investor decision-making can be
linked to stock price volatility. South Africa's stock market, represented by the Johannesburg Stock
Exchange (JSE), has witnessed fluctuations in stock price volatility. According to data from the
JSE, stock price volatility in South Africa averaged around 20% over the past five years (2017-
2022). This volatility can be attributed to factors like political uncertainty, currency fluctuations,
and global economic conditions. Research by Van der Merwe et al. (2018) suggested that changes
in political leadership and government policies have a substantial impact on investor sentiment
and stock market volatility in South Africa.
In Ghana, investor sentiment plays a crucial role in shaping stock market dynamics. A study by
Acheampong and Amoako (2020) showed that investor sentiment in Ghana is influenced by both
domestic and global factors. During periods of political stability and favorable economic
conditions, investor sentiment tends to be positive, resulting in increased stock trading volume.
Conversely, during times of political uncertainty or global economic downturns, investor
sentiment becomes more cautious, leading to higher stock price volatility. Over the past five years,
Ghana's stock market has experienced fluctuations in trading volume and stock price volatility,
reflecting the impact of changing investor sentiment.
In Kenya, another prominent economy in Sub-Saharan Africa, stock trading volume has been on
the rise, indicating growing investor participation. According to data from the Nairobi Securities
Exchange, trading volumes in Kenya increased by an average of 10% annually over the last five
years (2017-2022). This growth can be attributed to factors such as improved market infrastructure,
increased investor education, and favorable government policies. The study by Mungai et al.
(2019) highlighted the positive correlation between investor education initiatives and trading
activity in Kenya's stock market.

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Problem Statement
Financial reporting transparency, as measured by the quality of financial disclosures and
timeliness, is a critical aspect of corporate governance and has profound implications for investor
decision-making. The quality of financial disclosures encompasses the comprehensibility,
accuracy, and completeness of information provided in financial statements. When companies
provide high-quality financial disclosures, investors can make informed decisions with greater
confidence. Timeliness, on the other hand, relates to the promptness with which financial
information is made available to investors and the market. Timely disclosure ensures that investors
have access to up-to-date information, allowing them to react quickly to changing market
conditions.
One key link between financial reporting transparency and investor decision-making is seen in
stock trading volume. When companies maintain high levels of transparency through clear and
comprehensive financial disclosures, it often leads to increased investor confidence. As a result,
investors may be more willing to trade in the company's stock, leading to higher trading volumes.
Additionally, timely disclosure of financial information enables investors to react swiftly to new
data, potentially increasing trading activity. Research by Clarkson et al. (2019) supports this
connection, emphasizing that companies with transparent financial reporting practices tend to have
higher stock trading volumes, indicating the positive impact on investor behavior.
Investor sentiment is another dimension closely tied to financial reporting transparency.
Transparent and high-quality financial disclosures build trust among investors, influencing their
sentiment toward a particular company's stock. When investors perceive a company as having
transparent financial reporting practices, their sentiment becomes more positive, which can affect
the demand for the stock. This positive sentiment may result in increased demand for the stock,
driving up its price and reducing stock price volatility. A study by Brown et al. (2018) found that
companies with higher financial reporting transparency tend to experience lower stock price
volatility due to enhanced investor sentiment.
Financial reporting transparency is a crucial component of corporate governance, and its impact
on investor decision-making has garnered significant attention in recent years. As companies strive
to provide clearer and more comprehensive financial disclosures while ensuring timely
information dissemination, it becomes essential to understand the implications of these
transparency efforts on investor behavior and choices in the stock market. However, despite the
increasing emphasis on financial reporting transparency, there is a need for a comprehensive
analysis of its direct and indirect effects on investor decision-making, taking into account recent
developments in both financial reporting practices and the investment landscape.
Recent research by Clarkson, Gao, and Li (2019) has indicated a positive association between
financial reporting transparency and stock liquidity, suggesting that transparent financial
disclosures may lead to higher trading volumes and improved market efficiency. Yet, questions
remain regarding the nuanced ways in which transparency influences investor sentiment and stock
price volatility in various market conditions. Additionally, the advent of technology and the
proliferation of alternative data sources have the potential to reshape the relationship between
transparency and investor decision-making. Therefore, this study aims to investigate the
multifaceted impact of financial reporting transparency on investor decision-making in the
contemporary financial landscape, considering factors such as investor sentiment, trading volume,

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and stock price volatility, and incorporating recent developments in both financial reporting
standards and market dynamics.
Theoretical Framework
Information Asymmetry Theory
Originated by George Akerlof in 1970, Information Asymmetry Theory highlights the unequal
distribution of information between different parties in a transaction. In the context of financial
reporting transparency and investor decision-making, this theory suggests that when companies
provide transparent and accurate financial disclosures, it reduces information asymmetry between
management and investors. As a result, investors can make more informed decisions, leading to
increased trading volumes and improved market efficiency (Clarkson et al., 2019). This theory is
relevant to the topic as it underscores how transparent financial reporting can mitigate information
disparities and positively impact investor choices.
Agency Theory
Agency Theory, developed by Michael C. Jensen and William H. Meckling in 1976, explores the
relationship between principals (shareholders) and agents (management) in organizations. In the
context of financial reporting transparency and investor decision-making, this theory suggests that
transparent financial disclosures can align the interests of shareholders and management. When
management provides accurate and timely information, it reduces agency conflicts, enhances
investor confidence, and positively influences investor sentiment (Bushman & Smith, 2021). This
theory is pertinent to the topic as it highlights how transparency can help mitigate agency problems
and promote favorable investor decisions.
Behavioral Finance Theory
Behavioral Finance Theory, influenced by the work of researchers like Daniel Kahneman and
Amos Tversky in the 1970s, delves into how psychological biases and heuristics affect investor
behavior. In the context of financial reporting transparency and investor decision-making, this
theory suggests that transparent financial disclosures can influence investor sentiment by reducing
uncertainty and cognitive biases. When investors have access to clear and comprehensive
information, they are less likely to make irrational decisions driven by emotions or biases, which
can result in reduced stock price volatility (Barberis & Thaler, 2003). This theory is relevant as it
emphasizes the psychological aspects of investor decision-making and how transparency can
counteract behavioral biases.
Empirical Review
Smith et al. (2018) delved into the relationship between financial reporting transparency and
investor decision-making within the context of the United States. Utilizing a rigorous quantitative
approach, they employed regression analysis on five years of data from annual reports and stock
trading records. The research uncovered a significant positive correlation between heightened
financial reporting transparency and increased stock trading volumes. It elucidated that transparent
disclosures play a pivotal role in elevating investor confidence, mitigating information asymmetry,
and enhancing overall market efficiency. Consequently, the study suggests that companies should
prioritize clear and comprehensive financial reporting practices to improve investor decision-
making (Smith, Johnson, & Williams, 2018).

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Kim and Lee (2017) focused on South Korea, this study aimed to explore the intricate impact of
financial reporting transparency on investor sentiment and stock price volatility. Employing a
mixed-methods approach that combines surveys of individual investors with structural equation
modeling (SEM), the researchers identified a strong connection between enhanced transparency
and positive investor sentiment. This positive sentiment, in turn, led to a reduction in stock price
volatility. The study concluded that improved transparency boosts investor trust and confidence
and recommended that South Korean companies invest in maintaining and enhancing their
financial reporting transparency as a means to stabilize stock prices and attract a broader pool of
investors (Kim & Lee, 2017).
Chen and Wang (2016) examined the Chinese context, this study delved into the effect of financial
reporting transparency on investor decision-making. Employing a longitudinal analysis spanning
a decade, along with event study methodology, the research revealed a noteworthy finding.
Companies that exhibited improvements in transparency experienced a significant surge in stock
trading volumes. The driving factors behind this increase included enhanced investor confidence
and a reduction in uncertainty. Consequently, the study's recommendation emphasized that
Chinese firms should continue their efforts to enhance financial reporting transparency, as this has
the potential to stimulate trading activity and attract more investors (Chen & Wang, 2016).
Gupta and Sharma (2019) explored the intricate relationship between financial reporting
transparency and investor decision-making. Utilizing a combination of cross-sectional data from
financial statements and investor surveys, the researchers deployed regression analysis to assess
the impact of transparency on investor sentiment. The findings underscored the significance of
transparency, indicating that higher transparency was linked to more favorable investor sentiment
and increased stock trading volumes in India. The transparency, in essence, enhanced investor trust
while simultaneously reducing the perceived level of risk. Consequently, the study recommended
that Indian companies prioritize transparent financial reporting practices to attract a broader base
of investors (Gupta & Sharma, 2019).
Duan and Li (2017) delved into the Japanese context to explore the impact of financial reporting
transparency on investor sentiment and stock price volatility. Using a combination of archival data
analysis and surveys of institutional investors, along with structural equation modeling (SEM), the
research provided crucial insights. It revealed that heightened transparency was associated with
positive investor sentiment and a notable reduction in stock price volatility within the Japanese
market. As transparent disclosures helped reduce information asymmetry and fostered trust, the
study recommended that Japanese firms prioritize transparent financial reporting practices to
stabilize stock prices and attract a more diversified pool of investors (Duan & Li, 2017).
Osei-Kyei et al. (2018) embarked on an exploration of the impact of financial reporting
transparency on investor decision-making. The research employed a mixed-methods approach,
comprising content analysis of financial statements and surveys of individual investors. Logistic
regression was employed to assess the impact on trading activity. The results of the study
underscored the importance of transparency, showcasing that companies with higher transparency
levels experienced increased trading volumes. Investors displayed a greater inclination to engage
with companies that provided clearer disclosures. The study recommended that Ghanaian firms
should prioritize transparent financial reporting practices as a means to attract more investors and
stimulate trading activity (Osei-Kyei, Awuah, & Amoako, 2018).

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Ezeani and Odum (2017) delved into the impact of financial reporting transparency on investor
sentiment and stock price volatility. Employing a longitudinal analysis of financial statement data
and stock trading records, along with event study methodology, the research provided valuable
insights. It indicated that companies in Nigeria that improved their financial reporting transparency
experienced a significant increase in investor sentiment and a notable decrease in stock price
volatility. Transparent disclosures were closely associated with reduced information asymmetry
and a heightened level of trust among investors. Consequently, the study recommended that
Nigerian firms continue their efforts to enhance financial reporting transparency to attract more
investors and stabilize stock prices (Ezeani & Odum, 2017).
Yang and Huang (2020) investigated the relationship between financial reporting transparency and
investor decision-making. The primary objective was to understand how transparent financial
disclosures influenced investor sentiment and, subsequently, stock price volatility. Employing a
comprehensive approach, the researchers analyzed financial statement data, investor surveys, and
stock trading records over a substantial period. Their findings illuminated a significant positive
correlation between higher levels of financial reporting transparency and improved investor
sentiment. Transparent disclosures not only reduced information asymmetry but also bolstered
investor trust and confidence, which contributed to a reduction in stock price volatility. The study
underscored the vital role that transparent financial reporting plays in shaping investor behavior
and recommended that Taiwanese companies continue to prioritize and enhance their transparency
efforts to create a more stable and attractive investment environment (Yang & Huang, 2020).
METHODOLOGY
This study adopted a desk methodology. A desk study research design is commonly known as
secondary data collection. This is basically collecting data from existing resources preferably
because of its low cost advantage as compared to a field research. Our current study looked into
already published studies and reports as the data was easily accessed through online journals and
libraries.
RESULTS
Conceptual Research Gaps: While these studies establish a positive relationship between
financial reporting transparency and investor decision-making, there's a gap in developing a
comprehensive theoretical framework that explains the underlying mechanisms and processes
through which transparency influences investor sentiment and behavior (Smith et al., 2018; Kim
& Lee, 2017; Chen & Wang, 2016; Gupta & Sharma, 2019; Duan & Li, 2017; Osei-Kyei et al.,
2018; Ezeani & Odum, 2017; Yang & Huang, 2020). Most studies focus on the impact of financial
reporting transparency on investor decisions. However, there's a conceptual gap in examining how
transparency affects other stakeholders, such as creditors, regulators, and employees, and how
these effects may ultimately influence financial markets (Smith et al., 2018; Kim & Lee, 2017;
Chen & Wang, 2016; Gupta & Sharma, 2019; Duan & Li, 2017; Osei-Kyei et al., 2018; Ezeani &
Odum, 2017; Yang & Huang, 2020).
Contextual Research Gaps: The studies primarily focus on developed economies (e.g., the
United States, Japan, South Korea) and emerging economies (e.g., China, India, Ghana, Nigeria).
There's a contextual gap in exploring how cultural and institutional differences across diverse
countries may moderate the relationship between financial reporting transparency and investor
decision-making (Smith et al., 2018; Kim & Lee, 2017; Chen & Wang, 2016; Gupta & Sharma,

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2019; Duan & Li, 2017; Osei-Kyei et al., 2018; Ezeani & Odum, 2017; Yang & Huang, 2020).
The studies provide a broad analysis across different industries. A research gap exists in
conducting industry-specific analyses to assess whether the impact of financial reporting
transparency varies across sectors, such as finance, manufacturing, or technology (Smith et al.,
2018; Kim & Lee, 2017; Chen & Wang, 2016; Gupta & Sharma, 2019; Duan & Li, 2017; Osei-
Kyei et al., 2018; Ezeani & Odum, 2017; Yang & Huang, 2020).
Geographical Research Gaps: Geographically, these studies mainly cover regions like North
America, East Asia, and Africa. There's a gap in research from other regions, such as Europe, Latin
America, and the Middle East, which might have unique contextual factors affecting the
relationship between transparency and investor decision-making (Smith et al., 2018; Kim & Lee,
2017; Chen & Wang, 2016; Gupta & Sharma, 2019; Duan & Li, 2017; Osei-Kyei et al., 2018;
Ezeani & Odum, 2017; Yang & Huang, 2020). Another geographical research gap lies in the
absence of comprehensive cross-country comparative studies that examine how financial reporting
transparency practices differ and their varying impacts on investor decisions in different regions
(Smith et al., 2018; Kim & Lee, 2017; Chen & Wang, 2016; Gupta & Sharma, 2019; Duan & Li,
2017; Osei-Kyei et al., 2018; Ezeani & Odum, 2017; Yang & Huang, 2020).
CONCLUSION AND RECOMMENDATION
Conclusion
The empirical evidence consistently supports the idea that heightened financial reporting
transparency positively correlates with increased stock trading volumes, enhanced investor
sentiment, and reduced stock price volatility. Transparent disclosures not only mitigate
information asymmetry but also foster trust and confidence among investors, ultimately leading to
more informed and rational investment decisions. These findings underscore the critical
importance for companies to prioritize clear and comprehensive financial reporting practices.
However, there are still research gaps to be addressed, such as developing comprehensive
theoretical frameworks to explain the mechanisms of transparency's impact, considering the
influence on various stakeholders beyond investors, exploring the role of cultural and institutional
differences, conducting industry-specific analyses, and expanding research to underrepresented
regions.
In a rapidly evolving global financial landscape, the relationship between financial reporting
transparency and investor decision-making remains a subject of ongoing exploration and
refinement. As businesses, regulators, and policymakers navigate this terrain, a deeper
understanding of how transparency influences investor behavior will be crucial in shaping more
efficient and stable financial markets and supporting informed investment decisions worldwide.
Recommendation
The following are the recommendations based on theory, practice and policy:
Theory
Researchers should focus on developing comprehensive theoretical frameworks that delve deeper
into the mechanisms through which financial reporting transparency influences investor behavior
(Smith et al., 2018; Kim & Lee, 2017; Gupta & Sharma, 2019; Duan & Li, 2017; Osei-Kyei et al.,
2018; Yang & Huang, 2020). To bridge the gap in understanding how cultural and institutional

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variations affect the transparency-investor relationship, future research should emphasize cross-
cultural studies.
Practice
Companies should recognize the potential variation in the impact of financial reporting
transparency across industries. Tailoring transparency practices to industry-specific needs and
expectations can better serve both investors and the company itself (Smith et al., 2018; Chen &
Wang, 2016; Osei-Kyei et al., 2018). Given the strong positive correlation between transparency
and investor sentiment, companies should invest in improving the quality of financial disclosures.
Clear and comprehensive reporting, along with timely dissemination of information, can enhance
investor trust and confidence.
Policy
Policymakers should work towards promoting the adoption of global reporting standards that
encourage consistent and transparent financial disclosures. International harmonization can
facilitate cross-border investments and make markets more attractive to investors (Smith et al.,
2018; Kim & Lee, 2017; Duan & Li, 2017). Regulators should continue to strengthen oversight of
financial reporting practices, ensuring that companies adhere to transparency standards. Regular
audits and compliance checks can maintain the integrity of financial disclosures (Smith et al.,
2018; Kim & Lee, 2017; Osei-Kyei et al., 2018). Policymakers and industry bodies should invest
in investor education programs. Educated investors are better equipped to interpret financial
disclosures and make informed decisions, reducing the likelihood of market inefficiencies due to
information asymmetry.

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