Wisdom of crowds as a verification tool in bank lending: Evidence from borrowers’ customer tweets

Compared to dispersed, public creditors (e.g., bondholders), private block creditors (such as traditional banks) are more sophisticated, superior monitors and have privileged information about borrowers. Thus, while publicly available information about borrowers such as social media information may be useful to dispersed, public creditors in their lending decisions, it is ex-ante unclear whether such information is useful for bank loan contracting. Using Twitter as the setting, this study examines whether and how customer-generated comments on social media that portray favorable images of publicly listed borrowers affect loan pricing. In the aggregate sample, we find no evidence of a robust relationship between social media information and loan pricing. In the cross section however, we find such information to be negatively associated with loan spreads only when borrower-provided public disclosure is of questionable quality. In contrast, we find no such evidence for borrowers without information credibility issues. Leveraging favorable customer comments also reduces (increases) bank's reliance on financial (general) covenants. Our evidence points to decline in information risk as the economic mechanism through which such effects occur. Overall, our results indicate that third-party-generated information on social media substitutes for borrower-provided information in lending decisions when borrower-provided information is less reliable.