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Risk, returns, and multinational production

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  • José L. Fillat
  • Stefania Garetto

Abstract

This paper starts by unveiling a new empirical regularity: multinational corporations systematically tend to exhibit higher stock market returns and earnings yields than non-multinational firms. Within non-multinationals, exporters tend to exhibit higher earnings yields and returns than firms selling only in their domestic market. To explain this pattern, we develop a real option value model where firms are heterogeneous in productivity, and have to decide whether and how to sell in a foreign market where demand is risky. Firms can serve the foreign market through trade or foreign direct investment, thus becoming multinationals. Multinational firms are more exposed to risk: following a negative shock, they are reluctant to exit the foreign market because they would forgo the sunk cost that they paid to start investing abroad. We calibrate the model to match U.S. export and FDI dynamics, and use it to explain cross-sectional differences in earnings yields and returns.

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Bibliographic Info

Paper provided by Federal Reserve Bank of Boston in its series Risk and Policy Analysis Unit Working Paper with number QAU10-5.

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Date of creation: 2010
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Handle: RePEc:fip:fedbqu:qau10-5

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Keywords: International business enterprises ; Stock - Prices;

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  1. Sanghamitra Das & Mark J. Roberts & James R. Tybout, 2001. "Market Entry Costs, Producer Heterogeneity, and Export Dynamics," NBER Working Papers 8629, National Bureau of Economic Research, Inc.
  2. David E. Weinstein & Christian Broda, 2004. "Globalization And The Gains From Variety," Econometric Society 2004 Latin American Meetings, Econometric Society 327, Econometric Society.
  3. Piazzesi, Monika & Schneider, Martin & Tuzel, Selale, 2007. "Housing, consumption and asset pricing," Journal of Financial Economics, Elsevier, Elsevier, vol. 83(3), pages 531-569, March.
  4. Jonathan Eaton & Samuel Kortum, 2002. "Technology, Geography, and Trade," Econometrica, Econometric Society, Econometric Society, vol. 70(5), pages 1741-1779, September.
  5. Dixit, Avinash K, 1989. "Entry and Exit Decisions under Uncertainty," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 97(3), pages 620-38, June.
  6. Leahy, John V, 1993. "Investment in Competitive Equilibrium: The Optimality of Myopic Behavior," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 108(4), pages 1105-33, November.
  7. VEronica Rappoport & Natalia Ramondo, 2009. "The Role of Multinational Production in a Risky Environment," 2009 Meeting Papers, Society for Economic Dynamics 1106, Society for Economic Dynamics.
  8. Timothy Dunne & J. Bradford Jensen & Mark J. Roberts, 2009. "Producer Dynamics: New Evidence from Micro Data," NBER Books, National Bureau of Economic Research, Inc, number dunn05-1, October.
  9. George Alessandria & Horag Choi, 2007. "Do Sunk Costs of Exporting Matter for Net Export Dynamics?," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 122(1), pages 289-336, 02.
  10. Erzo G. J. Luttmer, 2007. "Selection, Growth, and the Size Distribution of Firms," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 122(3), pages 1103-1144, 08.
  11. Russ, Katheryn Niles, 2007. "The endogeneity of the exchange rate as a determinant of FDI: A model of entry and multinational firms," Journal of International Economics, Elsevier, Elsevier, vol. 71(2), pages 344-372, April.
  12. Alfonso A. Irarrazabal & Luca David Opromolla, 2008. "A Theory of Entry and Exit into Exports Markets," Working Papers, Banco de Portugal, Economics and Research Department w200820, Banco de Portugal, Economics and Research Department.
  13. Timothy Dunne & J. Bradford Jensen & Mark J. Roberts, 2009. "Introduction to "Producer Dynamics: New Evidence from Micro Data"," NBER Chapters, in: Producer Dynamics: New Evidence from Micro Data, pages 1-12 National Bureau of Economic Research, Inc.
  14. Motohiro Yogo, 2006. "A Consumption-Based Explanation of Expected Stock Returns," Journal of Finance, American Finance Association, American Finance Association, vol. 61(2), pages 539-580, 04.
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Citations

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Cited by:
  1. Morales, Eduardo & Sheu, Gloria & Zahler, Andrés, 2011. "Gravity and extended gravity: estimating a structural model of export entry," MPRA Paper 30311, University Library of Munich, Germany.
  2. Katheryn Russ & Diego Valderrama, 2010. "Financial Choice in a Non-Ricardian Model of Trade," Working Papers, University of California, Davis, Department of Economics 109, University of California, Davis, Department of Economics.
  3. Curcuru, Stephanie E. & Thomas, Charles P. & Warnock, Francis E., 2013. "On returns differentials," Journal of International Money and Finance, Elsevier, Elsevier, vol. 36(C), pages 1-25.
  4. repec:fip:fedreq:y:2012:i:1q:p:51-76:n:vol.98no.1 is not listed on IDEAS
  5. Thomas A. Lubik & Katheryn N. Russ, 2012. "Exchange rate volatility in a simple model of firm entry and FDI," Economic Quarterly, Federal Reserve Bank of Richmond, Federal Reserve Bank of Richmond, issue 1Q, pages 51-76.
  6. Stephanie E. Curcuru & Charles P. Thomas, 2012. "The return on U.S. direct investment at home and abroad," International Finance Discussion Papers, Board of Governors of the Federal Reserve System (U.S.) 1057, Board of Governors of the Federal Reserve System (U.S.).
  7. Eduardo Morales & Gloria Sheu & Andrés Zahler, 2014. "Gravity and Extended Gravity: Using Moment Inequalities to Estimate a Model of Export Entry," NBER Working Papers 19916, National Bureau of Economic Research, Inc.
  8. Stephanie E. Curcuru & Charles P. Thomas & Francis E. Warnock, 2013. "On Returns Differentials," NBER Working Papers 18866, National Bureau of Economic Research, Inc.
  9. Logan Lewis, 2011. "Exports versus Multinational Production under Nominal Uncertainty," 2011 Meeting Papers 223, Society for Economic Dynamics.
  10. Stephanie E. Curcuru & Charles P. Thomas, 2014. "The Return on U.S. Direct Investment at Home and Abroad," NBER Chapters, in: Measuring Wealth and Financial Intermediation and Their Links to the Real Economy National Bureau of Economic Research, Inc.

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