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Cross-Market Timing in Security Issuance

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  • Pengjie Gao
  • Dong Lou
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    Abstract

    The conventional view of market timing suggests an unambiguous, negative relation between equity misvaluation and the equity share in new issues|that is, rms with overvalued equity issue more equity and, all else equal, less debt. We question this conventional view in the paper. Using price pressure resulting from mutual funds' ow-induced trading to identify equity misvaluation, we rst show that equity and debt prices are a ected by the same shocks, but to di erent degrees. Next, we document substantial cross-sectional variation in the sensitivity of issuance decisions to equity misvaluation. In particular, rms with sucient internal resources increase equity issues and yet decrease debt issues in our measure of equity misvaluation; in contrast, rms that are heavily dependent on external nance increase both equity and debt issues, to take advantage of the misvaluation in both. In sum, this paper provides evidence that equity and debt can be jointly (mis)priced, and more important, examines the resulting impact on rms' issuance decisions.

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    File URL: http://www.lse.ac.uk/fmg/researchProgrammes/paulWoolleyCentre/workingPapers/dp718-PWC33.pdf
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    Bibliographic Info

    Paper provided by Financial Markets Group in its series FMG Discussion Papers with number dp718.

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    Handle: RePEc:fmg:fmgdps:dp718

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    1. Frazzini, Andrea & Lamont, Owen A., 2008. "Dumb money: Mutual fund flows and the cross-section of stock returns," Journal of Financial Economics, Elsevier, vol. 88(2), pages 299-322, May.
    2. Butler, Alexander W. & Cornaggia, Jess & Grullon, Gustavo & Weston, James P., 2011. "Corporate financing decisions, managerial market timing, and real investment," Journal of Financial Economics, Elsevier, vol. 101(3), pages 666-683, September.
    3. Hau, Harald & Lai, Sandy, 2012. "Real Effects of Stock Underpricing," CEPR Discussion Papers 8820, C.E.P.R. Discussion Papers.
    4. Kayhan, Ayla & Titman, Sheridan, 2007. "Firms' histories and their capital structures," Journal of Financial Economics, Elsevier, vol. 83(1), pages 1-32, January.
    5. Thomas Chaney & David Sraer & David Thesmar, 2012. "The Collateral Channel: How Real Estate Shocks Affect Corporate Investment," American Economic Review, American Economic Association, vol. 102(6), pages 2381-2409, October.
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