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What Can we Learn from Stock Prices?: Cash Flow, Risk, and Shareholder Welfare

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  • Joshua Mitts

Abstract

Price is expected cash flows discounted at the risk-free rate plus an additional discount for risk exposure. Price equivalency does not always imply welfare equivalency: shareholders are not necessarily indifferent between a price increaseof $1 from higher cash flows and the same $1 increase from lower risk exposure. Even in complete markets, if managers enjoy private benefits of control, the social planner may prefer lower risk exposure to a price-equivalent increase in firm value from greater investor protection. This has implications for event studies, the trade-off between principal costs and agency costs, and the link between macroeconomic risk and corporate governance.

Suggested Citation

  • Joshua Mitts, 2019. "What Can we Learn from Stock Prices?: Cash Flow, Risk, and Shareholder Welfare," Journal of Institutional and Theoretical Economics (JITE), Mohr Siebeck, Tübingen, vol. 175(1), pages 178-195.
    • Handle: RePEc:mhr:jinste:urn:doi:10.1628/jite-2019-0009
    DOI: 10.1628/jite-2019-0009
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    More about this item

    Keywords

    securities law; firm value; asset prices; shareholder welfare;
    All these keywords.

    JEL classification:

    • D53 - Microeconomics - - General Equilibrium and Disequilibrium - - - Financial Markets
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G34 - Financial Economics - - Corporate Finance and Governance - - - Mergers; Acquisitions; Restructuring; Corporate Governance
    • K22 - Law and Economics - - Regulation and Business Law - - - Business and Securities Law

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