International Journal of Law and Management

The effects of corporate governance on the stock return volatility: during the financial crisis
Mouna Aloui, Anis Jarboui,
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Mouna Aloui, Anis Jarboui, "The effects of corporate governance on the stock return volatility: during the financial crisis",
International Journal of Law and Management, https://doi.org/10.1108/IJLMA-01-2017-0010
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 The effects of corporate governance on the stock return
volatility: during the financial crisis

Keywords: Independent directors, outside directors, Stock return volatility, Simultaneous-equation

models.

INTRODUCTION
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The board of directors is a critical element in a firm’s corporate governance system

and the policy debate concerning corporate governance reform, especially regarding how the
board structure contributes to reducing the stock price volatility (Steven J. Jordan et al., 2012;
Hathaipat Aimpichaimongkol, Ms et al. 2013). One line of prior research has discovered that
the supervising role of outside directors within the corporate governance system can effectivly
stabilize the volatility of the stock returns (Kurt A. Desender et al., 2008,).
However, other research suggests that advising and monitoring occur simultaneously, and
the directors' knowledge is more critical for the volatility of the stock returns (Rhee & Lee
(2008). This paper provides evidence that reconciles both views on the board’s structure by
examining the impact of outside director’s tenure on advising and monitoring to reduce the
stock price volatility.
How the financial crisis (2006- 2009), and the souvrain crisis (2010 - 2012) affect
global economies and cause the volatility of the stock return has been a topic being heatedly
debated. Researchers hold divergent views about the causes and origins of the financial crisis.
In this context, several studies examined whether corporate governance plays a decisive role
in destabilizing the stock return volatility. On the other hand, many research found that
corporate governance (independent directors, foreign ownership, CEO ect…) contributes to
the reduction of the stock returns volatility. Moreover, the market has high adjustment ability
and rapidly and efficiently responds to significant sales by foreign investors (Choe et al.,
1999).

Walker’s review, UK, 2009, further investigated the weakness of corporate

governance as a principal factor of the financial crisis « it is clear that governance failures
contributed materially to excessive risk taking which lead to the financial crisis. Weaknesses
in risk management, the board’s quality and practice, the control of remuneration, and the
exercise of ownership rights need to be addressed in the Uk and internationally to minimize
the risk of a recurrence.”

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 However, Kirkpatrick (2009), argues that the current global financial crisis can be
“attributed to failures and weaknesses of the corporate governance arrangements” in financial
service companies.

Sias and Starks (2006) further investigated the relationship between corporate
governance and stock return volatility. They concluded that institutional shareholdings would
have a positive impact on the stock price volatility. Moreover, David et al. (2012) showed that
companies with more independent advice and better institutional ownership have the worst
stock performance during the crisis. Similarly, Rhee & Lee (2008) examined the outside
directors’ background which has an effect on the firm’s return volatility.

Similarly, Steven J. Jordan and Ji-Hwan Lee (2012) examined the possibility of a
bilateral interplay between the board’s characteristics and foreign ownership, by using a
variety of econometric models, including feedback, to test the robustness of (dynamic panel
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estimations, OLS). They showed that the proportion of outside directors with advanced
foreign degrees stabilized the stock price volatility.

Our study is motivated by different reasons. The first motivation is from the vast
literature central the question whether outside directors influence the stock return volatility
(Bohl et al. 2009; Chen et al. 2013). In fact, the relationship between the independent
directors and the stock return volatility is very weak in this area. This paper contributes to the
literature by examining the relationship between independent, outside directors and the stock
return volatility. This analysis is performed within the context of the French market because,
as we know, this problem has been researched exclusively on the Asian markets in Korea, and
Taiwan. Moreover, this paper has three distinct features that differentiate it from the existing
studies. First, it is among the first attempts to provide evidence that corporate governance
(outside directors, independent directors) is an important determinant of the stock return
volatility. On the other hand, it is a commonly-used framework in the existing literature.
Empirical analysies found that the outside and independent directors seem to play a
significant role in determining the stock return volatility. Second, this paper provides a new
perspective of choosing possible instrumental variables and resolving the endogeneity
problem in the selection of the board’s structure and the stock return volatility based on
outside, independent directors. Finally, we use outside and independent directors of individual
stocks as a direct measure of foreign presence in the local market to analyze the relation
between the outside directors and stock market volatility.

The results of this research have implications of potential interest to the regulators,
managers, shareholder activists, and investors, as well as to academic researchers. Besides,
there is an extended push by numerous international institutions, regulators, and legislators
toward a greater proportion of outside directors. The estimation results show a strong
relationship between outside directors and stock return volatility.

The variables are chosen to capture the particular characteristics of the relation
between corporate governance and the volatility of the stock market return. Our study thus
contributes to the existing literature by giving the first integrated approach to examining the
linkage between corporate governance and the stock return volatility by using the

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 simultaneous-equation models with both panel and time series econometric techniques for 89
firms over the 2006–2012 period. Specifically, this study uses three structural equation
models which help to examine the impact of corporate governance (size, outside directors,
and institutional investors) on the stock return volatility. Therefore, more useful and reliable
information can be provided to policy makers and investors to formulate effective policies for
the stock return volatility. Therefore, it is necessary for both investors and researchers to
futher understand the stock price response to the crisis.
The French stock market was chosen as the focus of this study because empirical
analyses in this country on this stock market are relatively scarce. Moreover, the negative
impact of a financial crisis on a firm's stock price may not proceed in such a way that the
firm's fundamental profitability is reduced.

The French context presents an attractive setting to investigate the influence of the
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board’s structure (independent directors and outside directors) on the stock return volatility.
France has an institutional setting similar to that of most continental countries. It is described
by La Porta et al. (1997) as a civil law country, characterized by a high concentration of
ownership, weak investor‘s rights and boards which are not independent in controlling the
shareholders. Futhermore, prior research on the link between stock price volatility and
ownership structure during periods of crisis focused on the East-Asian stock market crisis of
1997 (Mitton, 2002; Baek et al., 2004). To our knowledge, this is the first study to investigate
the importance of the board’s structure to explain the stock return volatility considering a
Continental European stock market. Using French data, we investigated whether the stock
price fluctuation depends on the company’s ownership structure during the financial crisis.
Our results show that both inside ownership and its concentration are important to explain the
stock price volatility during periods of crisis, after controlling the size and the sector. The
stock market volatility is positively related to insider ownership and the number of foreign
shareholders but negatively related to ownership concentration and the number of financial
shareholders.

The algorithm of the article is as such: Section 2 briefly reviews the related literature,
followed by section 3 that outlines the econometric modeling approach and describes the used
data. Section 4 depicts the empirical findings and the final section, section 5, holds the
concluding annotations and offers some policy implications.

LITERATURE REVIEW
Several existing studies on the nexus between corporate governance and the stock
return volatility highlighted the relationship between corporate governance and the stock
market. Therefore, this paper reviews the literature under three subsections, e.g. (a) outside
directors and volatility stock return; (b) independent board and volatility stock return, (c)
control variable and stock return volatility, which will be discussed below.

Outside directors and stock return volatility

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 A few studies have focused on the role played by the relationship between outside directors
and stock return volatility. Studies in the current literature provide mixed results of the foreign
ownership impacts on the stock price volatility.
On the one hand, many papers argue that outside directors’ help to reduce the stock return
volatility, but the consensus of these studies is that there is a negative impact running from
outside directors to the stock return volatility. Chen et al. (2000) pointed out that the
composition and characteristics of the outside directors enable them to reduce the stock return
volatility.
The existing literature indicates that the outside director’s sound monitoring will help
raise the investors' confidence in the firm and therefore, the panic selling by investors in
firms with better monitoring will be eased during the financial crisis. As a consequence, their
stock prices will be more stable. Steven J. Jordan et al. (2012) indicated the role of the outside
directors in reducing the stock price volatility. Moreover, Steven J. Jordan et al. (2012)
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pointed out that their stock prices will be more stable, and there for support the negative
impact running from the outside directors on the volatility stock return.

The reforms in Korea have been the catalyst for numerous studies. Choi et al. (2007)
studied Korea over the 1999, 2002 period and found the presence of outside directors and the
level of foreign ownership positively impact on too firm’s valuation. Other studies looking at
firm value impacts include Black and Kim (2012), Cho and Kim (2007), Kim (2007) and Min
(2013). However, none of these studies explored the effect of outside directors on foreign
ownership. Two studies come closest to remedying this omission. Rhee and Lee (2008) found
that foreign ownership increases when outside directors have advanced foreign degrees,
affiliations with government organizations and experience in the relevant industry. Kim et al.
(2010) showed that diffuse ownership and a firm's efforts to implement better corporate
governance lead to higher levels of foreign ownership.

In recent studies, Byung S. Min et al. (2015) have shown that the increase of foreign
ownership associated with an improvement in the corporate governance system, occurred
after controlling home bias and the firm’s size. Furthermore, Byung S. Min et al. (2015)
indicated that the positive effect of an outside director system on foreign ownership was
greater for independent firms than for conglomerates (chaebols) and their affiliates. The
results are robust under a range of endogeneity tests

In this area, many studies argue that professional investors help reduce risks in
companies, and the volatility of stock prices in which they invest (Li et al., 2011 and Umutlu
et al. 2010). The increased presence of institutional investors in emerging equity markets
improves risk control and reduces the risk exposure of the listed companies (and Cronqvist
Fahlenbrach, 2009, Doidge et al. 2004, Ferreira and Matos, 2008, Mitton, 2006 Umutlu et al.,
2010 and Wang and Xie, 2009). Foreign investors prefer to invest in well-established
companies, which should further accelerate better corporate governance practices (Chari et
al., 2006, Kelley and Woidtke 2006., Leuz et al., 2010, Rossi and Volpin, 2004 and Stulz,
1999). On the other hand, foreign investors could improve the quality of information on local
stock markets, ensure better control of the company and the standard reports, improve a

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 corporate governance environment, which considerably reduces transaction costs, information
costs, and risk exposure.

Independent board and stock return volatility

In this vein, Mitton (2002), Lemmon and Lins (2003), and Baek et al. (2004) found that
corporate governance is effective regarding the stock price reduction in the event of a
financial crisis. However, the risk is another important factor on which investors base their
investment. Therefore, Huson et al., 2001; Choi et al., 2007) stated that a higher ratio of
independent directors is expected to have a positive effect on corporate performance. Hsu-
Huei Huang and al (2011) believed that an independent board can help reduce the stock
market volatility. They divided the sample into two groups regarding whether the firm
appoints independent directors, and investigated the effect of independent directors on the
stock price volatility. They showed that the price volatility and overreaction under the
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political crisis were lower in firms with independent directors than the ones without. They
measured the difference in price volatility using the standard deviation of stock returns. In the
same vein, the independent directors are more capable of independently and objectively
monitoring managers than inside directors, which increases the investors' confidence in firms.
Improving the independence of the board has a subsequent effect of attracting foreign
investors. The home bias proposition and transaction cost theory provide further support for
this view. Foreign investors prefer firms that have governance systems similar to those in their
countries (Dahlquist et al., 2003; Karolyi and Stulz, 2003; Bell et al., 2012)
The control variable and stock return volatility

The relationship between the control (size, COE,) variable and the stock return volatility has
been the subject of considerable studies over the past few years. The board’s structure has an
influence on the price volatility and overreaction. Burcu Nazlioglu et al. (2012) showed that
the interaction of ownership structure and the stock price differ from one period to another.
They indicated that there was a positive relationship between inside ownership structure and
stock price during the period between January 2008 and March 2009. Moreover, a negative
relationship was observed during the period between October 2008 and January 2009. A
strong negative relationship is monitored between the largest ownership, the concentrated
ownership, and the stock prices.

Besides, Hsu-Huei Huang et al. (2011) stated that the chairman of the board
concurrently serving as the CEO will lead to increased price volatility and overreaction during
a political crisis as a result of the deterioration of the monitoring mechanism and the reduction
of the investors' confidence in firms. Some studies, which examined the relationship between
the control variables for firms (size, ROA) and the stock return volatility showed a significant
effect on the price fluctuation, and the variable was found to be the most significant factor
among those control variables.
METHODOLOGY AND DATA

The following regression equation is formulated to test empirically the

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 VOLi = α + β1CEOi +β 2 FDi +β 3INDDi +β 4CPAi +β 5 LEV i + β 6SIZEi + β 7PERi +β 8TURNi + ε i (1)
The  , as the dependent variable in the model, is measured by the following variables,
which include the standard deviation of annual stock returns. The CEO is a dummy variable
denoting whether or not the chairman of the board holds the position of CEO. The INDD,
which represents the independent directors, is measured according to whether the firm
appoints independent directors, or by the ratio of independent directors. The FD which
represents the outside directors is measured according to whether the firm appoints outside
directors, or by the ratio of outside directors. The CPA refers to the auditor-related variables
including the audit opinion and whether the firm has previously switched accounting firms. In
addition to the variables related to corporate governance, the following five control variables
are included to the regression model. The PER represents the firm performance in terms of the
relative ROA. The  is measured by the natural log of the total liabilities. The SIZE is
measured by the natural log of the market value of equity and the LEV is the firm's debt ratio
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measured by the ratio of total debt to total assets

Our work is a panel data study, Eq. (1) can be written in the form of panel data as follows:

VOL it = α + α i + ∑ j β j E jit + ∑ n δ nY n + ε it (2)

Since our study is a panel data study, Eq. (3) can be written in a panel data form as follows:
VOL it = α + α i + ∑ j − 1 β j E jit + ∑ n δ nY n + ε it (3)

VOL it = α + VOL it + β vd INDD it + β vf FD + β vvV i, t − 1 + ∑ n δ nY n + ε it (4)

INDD it = α + α i INT it + β vd VOL it + β vf FD + β vv INDD i, t − 1 + ∑ n δ nY n + ε it (5)

FD it = α + α i FD it + β vd VOL it + β vf INDD + β vv FD i, t − 1 + ∑ n δ nY n + ε it (6)

The Panel data analysis is the most efficient tool to use when the sample is a mixture of time
series and cross-sectional data. When the unobserved effect is correlated with independent
variables, pooled OLS estimations produce their biased and inconsistent estimators. The
general approach for estimating models that do not satisfy strict exogeneity is to use a
transformation to eliminate the unobserved effects and instruments to deal with endogeneity
(Wooldridge, 2002). Thus, we decide to use the two-step system estimator (SE) with adjusted
standard errors for potential heteroskedasticity proposed by Arellano and Bond (1998).
The econometric methodology for estimating the set of the presented equations is the
GMM (General Method of Moment) dynamic panel. A dynamic model is a model in which
one or more lags of the dependent variable are included as explanatory variables. Unlike the
dynamic GMM, a standard econometric technique, like the MCO, does not provide efficient
estimates of such a model, because of the presence of the lagged dependent variables to the
right of the equation. The estimate by GMM allows providing solutions to the problems of
simultaneity bias, reverse causality, and omitted variables. It allows treating the endogenous
variable problems. They were estimated simultaneously using the generalized method of
moments (GMM) which is the most commonly used estimation method in models with panel
data and the multiple-way linkage between some variables. This method uses a set of
instrumental variables to solve the endogeneity problem.

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 The main purpose of this study is to investigate whether corporate governance has any impact
on the stock price volatility under the financial crisis. Accordingly, we choose the financial
crisis of 2006- 2012 as our research background. Due to the crisis, the Franch stock market
dramatically declined after the crisis. Although the event ended one month later, the stock
price following the event was significantly more volatile than the one before the elections.
Besides, the stock prices of some firms experienced large down and up fluctuations, while the
stock prices of other firms appeared relatively stable. These results show that firms
overreacted differently to the financial crisis. Thus, we will try to investigate which kind of
firms responded to smaller price volatility and lower levels of overreaction during the
financial crisis.

EMPIRICAL RESULT AND DISCUSSION

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Furthermore, we examined the role of corporate governance which encompasses

equity structure, the board structure, the audit opinion, and whether the accounting firm was
switched or not. Our sample includes 89 listed firms on the French Stock Exchange. The data
for all the variables about the stock price, financial information and corporate governance
required in this study, are obtained from the database of the SBF 120 echo investing. Next, the
descriptive statistics of the different variables for individuals and also for the panel are given
below in Table 1:

Table 1: Summary statistics

First of all, the maximum standard deviation of the stock returns in the financial crisis in our
sample is 1.67%, and there is also a much smaller standard deviation of 0.003%. These
figures show that the impact of the financial crisis on a firm's stock price volatility differed
significantly from one firm to another. The question whether the differences were related to
corporate governance and the firm’s performance is the central focus of this study. As shown
in the table, the proportion of firms in which the chairman of the board is concurrently serving
as the CEO is 1.%. The proportion of independent directors is 33. 3%. Overall, the ratio of
independent directors to all the directors on the board is 8.4%. The percentage of firms with
the size of CEO is 1.2% and smaller standard deviation of 0. All the listed firms are required
to appoint independent directors, the proportion of independent directors for the firms in the
data is quite dispersed with a minimum value of 0 and a maximum value of 33,3% for the
proportion of outside directors. Moreover, the outside directors in these firms in the data are
quite dispersed with a minimum value of 0 .555 and a maximum value of 1.609. After that,
the control variable, (Debt ratio, firm’s size, relative roa) is the most volatile compared to the

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 other variables. It has the highest coefficient of variation (653.55, 8.904955, 9.285
and8.646425) as measured by the standard deviation-to-mean ratio.
Table 2: Correlation matrix

Next, Table (2) provides the correlation matrix for the dependent variable, stock return
volatility, and for all the independent variables. It also presents the correlation coefficients
among the variables in our analysis. At a first glance, it can be seen that the stock return
volatility is negatively correlated with the independent directors, which suggests that the
independent directors variables help stabilize the stock return volatility. The stock return
volatility is also negatively correlated with the firm’s size and the relative ROA. There is a
positive correlation between the debt ratio, CEO, outside director, and audit size. In fact, these
have contributed to the stock return volatility. The independent directors tend to avoid firms
with a higher leverage ratio. This is consistent with other previous studies suggesting that
institutional investors tend to have preferences for firms with specific attributes to avoid
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informational asymmetry. The correlation pairs are significant at 5% level.

Tableau3: Robustness Tests - No Feedback and Governance Variables Not Endogenous

This table reports robustness regressions. The first column (OLS-fe) controls for fixed
effects, while the second (OLS-ar) controls for fixed effects and possible AR (1) structure in
the residuals. The next column is Arellano- Bover/Blundell-Bond linear dynamic panel-data
regression (ABBB). The Arellano-Bond regression (AB) is a differencing method for
producing consistent estimates. This method has the advantage of allowing for dynamic
effects by controlling for lagged volatility.
The empirical results about (OLS-fe), (OLS-ar), the Arellano- Bover/Blundell-Bond
linear dynamic panel-data regression (ABBB) and the Arellano-Bond regression (AB) showed
that the independent directors have a positive and significant impact on the stock return
volatility. This suggests that stock return volatility is elastic on independent directors.
Hence, a 10% increase of the independent directors increases the stock return volatility within
a range of 18, 34 %. This result indicates that the independent directors increase the volatility
of the stock prices (Jordan (2012)). Moreover, the different reports about robustss regressions
(OLS-fe, OLS-ar, ABBB and AB) pointed out that the debt ratio (LEV) has a positive and
significant impact on the stock market volatility. This suggests that the stock return volatility
is elastic on the leverage ratio, and a 10% increase in the leverage ratio increases the stock
return volatility within a range of 0.026%.This result indicates that the debt ratio increases the
stock return volatility.

Tableau4: Random and Fixed Effect Regressions (The impact of corporate governance on the
stock returns volatility)

Table (4) reports the fixed and random effect regression effects. We can see that the results of
three models (models 1, 2, 3) are random effects. When the model with a rondom effect is
correlated, then the model is misspecified, and inferences can be faulty. Moreover, the models
(4), is fixed effects are correlated with one or more independent variables, an individual effect
framework still gives valid inferences and thus is preferred. The Hausman specification test
provides information on the correlation of the individual effects and indicates the type of the

8
 effect, random or fixed. The p-value of the Hausman specification test is 0.0000 providing
strong rejection of the null of no correlation. Thus, we continue below with analysis within
the fixed effect in our studies. Table 4, we can see that foreign ownership is negatively and
significantly correlated with stock return volatility in all the regressions. The foreign director
can help to reduce the stock return volatility. According to Xuan Vinh Vo (2015) Provide, the
foreign director can stabilize the stock return volatility.

Tableau5: Pooled OLS Regression Results

Table 5 presents the estimation results. The results confirm that foreign ownership is
negatively and significantly correlated with the stock return volatility. Moreover, the firm’s
size and ROA have a negative effect on the stock return volatility, which is clearly evidenced
in all the regressions. On the other hand, the CEO, audit size, debt ratio and total liabilities
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have statically significant and positive effects on the stock return volatility. These results
indicate that these variables increased the stock return volatility.

Table 6: Three-Stage Least Squares for Simultaneous Equations.

Besides, before running the regressions, some specific tests have been audited.
According to Newey (1985), Smith and Blundell (1986), the two important specification tests
used for simultaneous-equation regression models are the endogeneity/exogeneity test and the
over identifying restrictions test. First, the Durbin-Wu-Hausman (DWH) test was used to test
the endogeneity for all the three equations. The null hypothesis of the DWH endogeneity test
states that an ordinary least square (OLS) estimator of the same equation would give
consistent estimates: this means that endogeneity between the repressors would not have
deleterious effects on the OLS estimates. A rejection of the null indicates that endogenous
repressors effects on the estimates are meaningful and instrumental hypothesis variables
techniques are required. Second, we may test the over identifying restrictions to provide some
evidence of the instrument validity. This is tested using the Hansen test by which the null
hypothesis of overidentifying restrictions cannot be rejected. In other words, the null
hypothesis states that the instruments are appropriate, and therefore, cannot be rejected.
The empirical results of the Hansen test on the identification of restrictions do not
reject the null hypothesis for IND, FD in two models (p = 0.519, p = 0.741), which indicates
that the model is a valid instrumentation. The Hansen test evaluates all the identification /
instruments. It is also important to test the validity of the sub-sets of instruments (levels,
differentiated and standard instruments). Regarding the DW, Wu-Durbin-Hausman test, we
reject the null hypothesis. Therefore, the effect of the endogenous regression estimates is
significant. On the other hand, the AR (1) is significant for the variables in this model; hence,
the null hypothesis cannot be rejected.
Table 4 presents the results of the 3SLS estimation of the three equations in which the
stock return volatility is proxied by the standard deviation of the stock market. The empirical
results about eq presented in Table 4, show that the volatility of the stock returns has a
positive and significant impact on the outside directors. This implies that the outside directors
are elastic compared to the stock return volatility. In fact, a 10% increase in the stock market

9
 increases the outside directors within a range of 23, 47%. However, the results show that the
outside directors have a positive and significant impact on the stock return volatility.

Moreover, the results show that the volatility of the stock returns has a negative and
significant(1%) impact on the outside directors. This implies that the outside directors can
reduce the stock return volatility. This stipulates that the independent administrators are
involved in reducing the volatility of the stock prices, that is to say, they are considered a real
factor of corporate governance. Therefore, the independent directors have a negative and
significant impact on the stock return volatility. This indicates that the independent directors
contributed to the minimization of the volatility of the stock returns. In this context, the
independent directors are considered a sign of good governance. This result is consistent with
the findings of Huang et al. (2010).

In this area, the independent directors are crucial in monitoring companies

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(Sivaramakrishnan and Kumar, 2008). They consider that the independent directors play a
monitoring role. Therefore, the absence of this role can harm the corporate value. Moreover,
Jensen (1993) pointed out that the board of more independent directors would be better able to
monitor the managers effectively. Fama (1980), Connors (1989) and Baysinger and Hoskisson
(1990), also supported the idea that independent directors could objectively evaluate corporate
development and monitor management more efficiently because they own more professional
knowledge and adopt a more independent stance. Gordon (2007) pointed out that the
independent directors can be more readily mobilized by legal standards to help provide
public goods of more accurate disclosure and better compliance with the law.

CONCLUSION
This study investigated the causal linkage between the stock return volatility, the
outside, independent directors, and the control variables on simultaneous-equation panel data
models of 89 firms over the 2006- 2012 period. This method is selected due to the lack of
studies that investigated the four-way linkage between the stock return volatility, the outside,
and independent directors, and the control variables using four structural equations that
simultaneously help examine the impact of the stock return volatility, the outside and
independent directors and the control variables.

Our empirical results show that the proportion of outside directors destabilizes the
stock price volatility. This result is statistically significant and robust in a wide range of
model specifications. The results of our preliminary tests are consistent with the signaling
theory (Spence, 1974), which is of a higher importance when an investor operates in a less
certain investment environment, such as in Korea after the 1997 Asian Financial Crisis.
Furthermore, our results showed that the independent directors stabilize the stock return
volatility.

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 The main findings show evidence of a bidirectional causality between the outside
directors and the stock return volatility. In this context, the stock return volatility and the
outside directors are interrelated. The feedback hypothesis between the stock return volatility,
the outside and the independent directors is validated. Our results indicate that there is
evidence of a bilateral interplay causality between the outside and the independent directors.
A unidirectional causality running from the outside directors to the stock return volatility and
from the independent directors to the stock return volatility is identified. Our empirical results
show that the proportion of the outside directors with advanced foreign degrees stabilizes the
stock price volatility. This study employs a variety of econometric models, including
feedbacks, to test the robustness of our empirical results.
The main policy implications arising from our study can be presented as follows. The
feedback between the stock return volatility and corporate governance implies that the outside
directors have a causal impact on the stock return volatility. In fact, the outside and
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independent directors can reduce the volatility of the stock return, therefore, they are a sign of
good corporate governance. This result is consistent with our hypothesis about the outside
directors, the chairman of the board concurrently serving as the CEO and the independent
directors are good in the monitoring mechanism and the increased investment. However, the
size of the board, the firm’s size and the debt ratio have a positive effect on the volatility of
the stock returns. This result is consistent with our hypothesis that states that the chairman, the
size of the board, the firm’s size and the debt ratio increase the price volatility and the
overreaction during a political crisis as a result of the deterioration of the monitoring
mechanism and the reduction of the investors' confidence in firms. Moreover, this result
indicates that the variables (chairman, the size of the board, the firm’s size and the debt ratio)
are considered signs of poor corporate governance and help increase the stock return
volatility.
This study is the first to report the above results. We believe that our findings further
confirm the importance of corporate governance and help investors and financial economists
understand the behavior of the stock prices during a financial crisis. Although the existing
studies refer to the influence of corporate governance on the stock prices during a crisis, none
of them has ever discussed whether better corporate governance can help reduce the stock
price volatility in such a situation. Since the stock return and risk are the two major factors
that need to be considered by investors, our findings suggest that the investors need to
appraise seriously the firm's corporate governance when making investment decisions,
because a better corporate governance not only has a positive effect on the stock returns but
also can stabilize the stock prices during a financial crisis

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Biographies:

Aloui Mouna is now pursuing his PHD at the Faculty of Economics and Management
of Sfax in Tunisia. She is a Member of the Research in governance, information,
technology and entrepreneurship Laboratory. The research activities deal with Risk
management and financial crisis
Jarboui Anis is a Professor at the Faculty of Economics and Management of Sfax in
Tunisia. The topics of research activities deal with corporate governance, Financial
and Accounting

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15
 Table 1: Summary statistics

Variables Obs Mean Std. Dev. Min Max

Volatility 623 .3986773 .1878925 .0037603 1.167427
CEO 623 .635634 .4816386 0 1
FD 367 .291568 .1858492 .055555 1.609438
INDD 623 1.04751 13.32312 0 0.333
CPA 623 .3296789 .1352636 0 1.2
Relative ROA 623 .072706 .5701465 -6.95 9.285
LEV 623 53.09744 81.03811 -110.45 653.55
Firm Size 623 6.483938 .7927428 0 8.904955
TURN 623 6.639204 .7695137 0 8.646425

Table 2: Correlation matrix

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Variables volatility CEO FD IND Audit size ROA Debt Firm size Total liabilities
ratio
Volatility 1.000
CEO 0.1286* 1.000
0.0013
FD 0.0445 0.0846 1.000
0.3950 0.1055
IND -0.0132 0.0287 0.1974* 1.000
0.7419 0.4753 0.0001
Audit size 0.0953* 0.0207 0.3308* -0.0456 1.000
0.0174 0.6057 0.0000 0.2560
ROA -0.0119 0.0119 0.0912 -0.0034 0.0073 1.000
0.7674 0.7676 0.0811 0.9323 0.8549
Debt ratio 0.1199* 0.0866* -0.0846 -0.0341 -0.0051 0.0012 1.000
0.0027 0.0307 0.1055 0.3949 0.8999 0.9760
Firm size -0.0019 -0.0584 -0.0451 -0.0084 -0.3175* 0.0201 0.0534 1.000
0.9632 0.1452 0.3893 0.8341 0.0000 0.6174 0.1827
Total liabilities -0.0734 -0.1320* -0.1270* -0.0076 -0.3222* -0.0097 0.1302* 0.7304* 1.000
0.0671 0.0010 0.0149 0.8507 0.0000 0.80970 0.0011 0.000

Tableau3:
Robustness Tests - No Feedback and Governance Variables Not Endogenous
Volatility stock return
Variables Ols-fe Ols-ar Ab Abbb
Volatility stock return .0213691 .0261624 -.000477 -.012617
(0.578) (0.571) (0.993) (0.808)
Chairman also serving as .0164611 .1483642 .2842368** .16203
CEO (0.791) (0.211) (0.054) (0.233)
Outsider directors (FD) .1834594 .1840265 .2219233** .2840837
(0.008)* (0.028)** (0.038) (0.005)**
Independent directors .0446437 .0539175 -.080685 .1292659
(0.656) (0.712) (0.661) (0.909)
Audit size -.042662 -.075450 .0526602 -.209908
(0.601) (0.491) (0.684) (0.078)***
Relative ROA .0002644 .0002502 .0001734 .0003577
(0.009)* (0.047)** (0.248) (0.012)**
Debt Ratio .0043407 .0064761 -.008987 .0338603
(0.744) (0.680) (0.676) (0.100)
Firm size .0046849 .018764 .0280472 .0128239
(0.863) (0.580) (0.500) (0.736)
Constant .1674346 .013684 -.351875*** -.1473147
(0.381) (0.945) (0.075) (0.569)
Volatility .4377655* .2849317*
(0.000) (0.000)
This table reports robustness regressions. The first column (OLS-fe) controls for fixed effects. The second column (OLS-ar) controls for
fixed effects and possible AR(1) structure in the residuals. The next column Arellano-Bond regression (AB) and the Arellano-
Bover/Blundell-Bond linear dynamic panel-data regression (ABBB
* **
, and *** indicate significance at the 1%, 5%, and 10% levels, respectively
 Tableau4:
Random and Fixed Effect Regressions (The impact of corporate governance on the stock
returns volatility)
Variables Stock return volatility
Model1 Model2 Model 3 Model 4

CEO .0152933 .0213691

(0.578)
( 0.691)
FD .0171294 .0164611
(0.782) (0.791)
IND .1786031 -.0000928 .1834594
(0.010) 0.792 (0.008)
Audit size -.0340352 -.0337171 -4.42e-10
0.575 0.580 (0.860)

ROA -.0063078 -.0063206 -.0426624

(0.424) 0.424 (0.601)
Debt ratio .0002156 0002145 .0002644
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(0.016)** 0.017 (0.009)

Firm size -.0012812 -.0012117 .0043407
(0.917) 0.921 (0.744)
Total liabilities .-.052031 -.051979 .0046849
(0.002)** 0.002 (0.863)
Constant .7526633 .7519738 .1674346
(0.0000)* 0.0000 (0.381)
Fixed / random effect 4.80 1.88 4.75 42.55
0.4403 0.5972 0.576 (0.000)

Breusch–Pagan LM test 789.20 793.62 789.37

(p-value)/ effet fixe (0.0000) (0.000) 0.000

Tableau5:
Pooled OLS Regression Results
Variables
Stock return Coef. Std. Err. t P>|t|
volatility
CEO .0314574 .0169676 1.85 0.065
FD -.0590011 .0526383 -1.12 0.026
IND .0666269 .0410113 1.62 0.105
Audit size .164201 .082536 1.99 0.047
ROA -.352634 .1010953 -3.49 0.001
Debt ratio .0004149 .0000889 4.67 0.000
Firm size -.0386955 .0123863 -3.12 0.002
Total liabilities .0506746 .0179811 2.82 0.005
cons .1802392 .1203747 1.50 0.135

* **
, and *** indicate significance at the 1%, 5%, and 10% levels, respectively

.
 Table 6:
Three-Stage Least Squares for Simultaneous Equations.

(1) (2) (3)

Variables Volatility stock return FDi ( Outsider IND( Independent
directors) directors)
Volatility stock return .997335 -.088921
(0.327) (0.735)
Chairman also serving as CEO -.0024182 .0150367 -.0204414
(0.934) (0.854) (0.397)
Outsider directors (FD) .2347926** .3823154 *
(0.010) (0.000)
Independent directors -.9719472* .2.198526*
(0.000) (0.000)
Audit size .3733843**
(0.006)
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Relative ROA -.4283953** .

(0.004)
Debt Ratio .0002094 -.0002125 -.0001434
(0.123) (0.727) (0.332)
Firm size -.0631012 .0670512*
( 0.287) (0.000)
Total liabilities .1016781* -.1126497***
(0.000) (0.090)
AR(1) -3.28* -2.34** -3.04**
(0.001) (0.020) (0.002)
Test de Hansen 32.88** 10.28 13.09
(0.003) (0.741) (0.519)
Wu-Hausman F test 12.17108 F(1,365) 22.59621 F(1,365) 12.85766 F (1,365)
0.00054 0.00000 0.00038
Durbin-Wu-Hausman 11.87514 21.45378 12.52223
0.00057 0.0000 0.00040

* **
, , and *** indicate significance at the 1%, 5%, and 10% levels, respectively