IDEAS home Printed from https://ideas.repec.org/p/nbr/nberwo/10559.html
   My bibliography  Save this paper

The Stock Market and Investment: Evidence from FDI Flows

Author

Listed:
  • Malcolm Baker
  • C. Fritz Foley
  • Jeffrey Wurgler

Abstract

Foreign direct investment offers a rich laboratory in which to study the broader economic effects of securities market mispricing. We outline and test two mispricing-based theories of FDI. The cheap assets' or fire-sale theory views FDI inflows as the purchase of undervalued host country assets, while the cheap capital' theory views FDI outflows as a natural use of the relatively lowcost capital available to overvalued firms in the source country. The empirical results support the cheap capital view: FDI flows are unrelated to host country stock market valuations, as measured by the aggregate market-to-book-value ratio, but are strongly positively related to source country valuations and negatively related to future source country stock returns. The latter effects are most pronounced in the presence of capital account restrictions, suggesting that such restrictions limit cross-country arbitrage and thereby increase the potential for mispricing-driven FDI.

Suggested Citation

  • Malcolm Baker & C. Fritz Foley & Jeffrey Wurgler, 2004. "The Stock Market and Investment: Evidence from FDI Flows," NBER Working Papers 10559, National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberwo:10559
    Note: AP IFM ITI
    as

    Download full text from publisher

    File URL: http://www.nber.org/papers/w10559.pdf
    Download Restriction: no

    References listed on IDEAS

    as
    1. Fama, Eugene F & French, Kenneth R, 1992. " The Cross-Section of Expected Stock Returns," Journal of Finance, American Finance Association, vol. 47(2), pages 427-465, June.
    2. Malcolm Baker & Jeremy C. Stein & Jeffrey Wurgler, 2003. "When Does the Market Matter? Stock Prices and the Investment of Equity-Dependent Firms," The Quarterly Journal of Economics, Oxford University Press, vol. 118(3), pages 969-1005.
    3. David L. Carr & James R. Markusen & Keith E. Maskus, 2001. "Estimating the Knowledge-Capital Model of the Multinational Enterprise," American Economic Review, American Economic Association, vol. 91(3), pages 693-708, June.
    4. Shleifer, Andrei & Vishny, Robert W, 1992. " Liquidation Values and Debt Capacity: A Market Equilibrium Approach," Journal of Finance, American Finance Association, vol. 47(4), pages 1343-1366, September.
    5. Frankel, Richard & Lee, Charles M. C., 1998. "Accounting valuation, market expectation, and cross-sectional stock returns," Journal of Accounting and Economics, Elsevier, vol. 25(3), pages 283-319, June.
    6. Malcolm Baker & Jeffrey Wurgler, 2000. "The Equity Share in New Issues and Aggregate Stock Returns," Journal of Finance, American Finance Association, vol. 55(5), pages 2219-2257, October.
    7. Randall Morck & Andrei Shleifer & Robert W. Vishny, 1990. "The Stock Market and Investment: Is the Market a Sideshow?," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 21(2), pages 157-216.
    8. Gordon, Roger H. & Hines, James Jr, 2002. "International taxation," Handbook of Public Economics,in: A. J. Auerbach & M. Feldstein (ed.), Handbook of Public Economics, edition 1, volume 4, chapter 28, pages 1935-1995 Elsevier.
    9. Robert C. Feenstra, "undated". "Facts And Fallacies About Foreign Direct Investment," Department of Economics 98-04, California Davis - Department of Economics.
    10. Robert S. Chirinko & Huntley Schaller, 2001. "Business Fixed Investment and "Bubbles": The Japanese Case," American Economic Review, American Economic Association, vol. 91(3), pages 663-680, June.
    11. Brav, Alon & Gompers, Paul A, 1997. " Myth or Reality? The Long-Run Underperformance of Initial Public Offerings: Evidence from Venture and Nonventure Capital-Backed Companies," Journal of Finance, American Finance Association, vol. 52(5), pages 1791-1821, December.
    12. Markusen, James R., 1984. "Multinationals, multi-plant economies, and the gains from trade," Journal of International Economics, Elsevier, vol. 16(3-4), pages 205-226, May.
    13. Loughran, Tim & Ritter, Jay R. & Rydqvist, Kristian, 1995. "Initial public offerings: International insights," Pacific-Basin Finance Journal, Elsevier, vol. 3(1), pages 139-140, May.
    14. Kothari, S. P. & Shanken, Jay, 1997. "Book-to-market, dividend yield, and expected market returns: A time-series analysis," Journal of Financial Economics, Elsevier, vol. 44(2), pages 169-203, May.
    15. Blonigen, Bruce A, 1997. "Firm-Specific Assets and the Link between Exchange Rates and Foreign Direct Investment," American Economic Review, American Economic Association, vol. 87(3), pages 447-465, June.
    16. Fischer, Stanley & Merton, Robert C., 1984. "Macroeconomics and finance: The role of the stock market," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 21(1), pages 57-108, January.
    17. Barberis, Nicholas & Thaler, Richard, 2003. "A survey of behavioral finance," Handbook of the Economics of Finance,in: G.M. Constantinides & M. Harris & R. M. Stulz (ed.), Handbook of the Economics of Finance, edition 1, volume 1, chapter 18, pages 1053-1128 Elsevier.
    18. Bekaert, Geert & Harvey, Campbell R, 1995. " Time-Varying World Market Integration," Journal of Finance, American Finance Association, vol. 50(2), pages 403-444, June.
    19. Yeaple, Stephen Ross, 2003. "The complex integration strategies of multinationals and cross country dependencies in the structure of foreign direct investment," Journal of International Economics, Elsevier, vol. 60(2), pages 293-314, August.
    20. Shleifer, Andrei & Vishny, Robert W., 2003. "Stock market driven acquisitions," Journal of Financial Economics, Elsevier, vol. 70(3), pages 295-311, December.
    21. Lamont, Owen, 1997. " Cash Flow and Investment: Evidence from Internal Capital Markets," Journal of Finance, American Finance Association, vol. 52(1), pages 83-109, March.
    22. Gilchrist, Simon & Himmelberg, Charles P. & Huberman, Gur, 2005. "Do stock price bubbles influence corporate investment?," Journal of Monetary Economics, Elsevier, vol. 52(4), pages 805-827, May.
    23. Kenneth A. Froot & Jeremy C. Stein, 1991. "Exchange Rates and Foreign Direct Investment: An Imperfect Capital Markets Approach," The Quarterly Journal of Economics, Oxford University Press, vol. 106(4), pages 1191-1217.
    24. La Porta, Rafael, et al, 1997. " Good News for Value Stocks: Further Evidence on Market Efficiency," Journal of Finance, American Finance Association, vol. 52(2), pages 859-874, June.
    25. Ming Dong & David Hirshleifer & Scott Richardson & Siew Hong Teoh, 2006. "Does Investor Misvaluation Drive the Takeover Market?," Journal of Finance, American Finance Association, vol. 61(2), pages 725-762, April.
    26. Marco Pagano & Fabio Panetta & and Luigi Zingales, 1998. "Why Do Companies Go Public? An Empirical Analysis," Journal of Finance, American Finance Association, vol. 53(1), pages 27-64, February.
    27. Steven M. Fazzari & R. Glenn Hubbard & Bruce C. Petersen, 1988. "Financing Constraints and Corporate Investment," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 19(1), pages 141-206.
    28. Desai, Mihir A. & Foley, C. Fritz & Hines, James Jr., 2004. "Foreign direct investment in a world of multiple taxes," Journal of Public Economics, Elsevier, vol. 88(12), pages 2727-2744, December.
    29. Markus K. Brunnermeier & Stefan Nagel, 2004. "Hedge Funds and the Technology Bubble," Journal of Finance, American Finance Association, vol. 59(5), pages 2013-2040, October.
    30. Shleifer, Andrei, 2000. "Inefficient Markets: An Introduction to Behavioral Finance," OUP Catalogue, Oxford University Press, number 9780198292272.
    31. Polk, Christopher & Sapienza, Paola, 2003. "The Real Effects of Investor Sentiment," CEPR Discussion Papers 3826, C.E.P.R. Discussion Papers.
    32. Bekaert, Geert, 1995. "Market Integration and Investment Barriers in Emerging Equity Markets," World Bank Economic Review, World Bank Group, vol. 9(1), pages 75-107, January.
    33. Mark Mitchell & Todd Pulvino & Erik Stafford, 2004. "Price Pressure around Mergers," Journal of Finance, American Finance Association, vol. 59(1), pages 31-63, February.
    34. James R. Markusen & Anthony J. Venables & Denise Eby Konan & Kevin H. Zhang, 1996. "A Unified Treatment of Horizontal Direct Investment, Vertical Direct Investment, and the Pattern of Trade in Goods and Services," NBER Working Papers 5696, National Bureau of Economic Research, Inc.
    35. Henry, Peter Blair, 2000. "Do stock market liberalizations cause investment booms?," Journal of Financial Economics, Elsevier, vol. 58(1-2), pages 301-334.
    36. La Porta, Rafael, 1996. " Expectations and the Cross-Section of Stock Returns," Journal of Finance, American Finance Association, vol. 51(5), pages 1715-1742, December.
    37. Froot, Kenneth A. & Dabora, Emil M., 1999. "How are stock prices affected by the location of trade?," Journal of Financial Economics, Elsevier, vol. 53(2), pages 189-216, August.
    38. Owen A. Lamont & Richard H. Thaler, 2003. "Can the Market Add and Subtract? Mispricing in Tech Stock Carve-outs," Journal of Political Economy, University of Chicago Press, vol. 111(2), pages 227-268, April.
    39. Loughran, Tim & Ritter, Jay R, 1995. " The New Issues Puzzle," Journal of Finance, American Finance Association, vol. 50(1), pages 23-51, March.
    40. Rosenthal, Leonard & Young, Colin, 1990. "The seemingly anomalous price behavior of Royal Dutch/Shell and Unilever N.V./PLC," Journal of Financial Economics, Elsevier, vol. 26(1), pages 123-141, July.
    41. Volker Nocke & Stephen Yeaple, 2004. "Mergers and the Composition of International Commerce," NBER Working Papers 10405, National Bureau of Economic Research, Inc.
    42. Nelson, Charles R & Kim, Myung J, 1993. " Predictable Stock Returns: The Role of Small Sample Bias," Journal of Finance, American Finance Association, vol. 48(2), pages 641-661, June.
    43. repec:hrv:faseco:30725119 is not listed on IDEAS
    44. James R. Markusen, 1997. "Trade versus Investment Liberalization," NBER Working Papers 6231, National Bureau of Economic Research, Inc.
    45. Marsh, Paul, 1982. " The Choice between Equity and Debt: An Empirical Study," Journal of Finance, American Finance Association, vol. 37(1), pages 121-144, March.
    46. Helpman, Elhanan, 1984. "A Simple Theory of International Trade with Multinational Corporations," Journal of Political Economy, University of Chicago Press, vol. 92(3), pages 451-471, June.
    47. Ritter, Jay R, 1991. " The Long-run Performance of Initial Public Offerings," Journal of Finance, American Finance Association, vol. 46(1), pages 3-27, March.
    48. Pontiff, Jeffrey & Schall, Lawrence D., 1998. "Book-to-market ratios as predictors of market returns," Journal of Financial Economics, Elsevier, vol. 49(2), pages 141-160, August.
    49. Dewenter, Kathryn L, 1995. "Do Exchange Rate Changes Drive Foreign Direct Investment?," The Journal of Business, University of Chicago Press, vol. 68(3), pages 405-433, July.
    50. Asquith, Paul & Mullins, David Jr., 1986. "Equity issues and offering dilution," Journal of Financial Economics, Elsevier, vol. 15(1-2), pages 61-89.
    51. repec:hrv:faseco:30748164 is not listed on IDEAS
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Kristin J. Forbes, 2007. "The Microeconomic Evidence on Capital Controls: No Free Lunch," NBER Chapters,in: Capital Controls and Capital Flows in Emerging Economies: Policies, Practices and Consequences, pages 171-202 National Bureau of Economic Research, Inc.
    2. Joanna Tyrowicz, 2007. "Blame No One ?Investment Decisions of the Polish Stock-Listed Companies," Brussels Economic Review, ULB -- Universite Libre de Bruxelles, vol. 50(4), pages 391-410.
    3. Md. Al-Mamun, 2013. "The Effect of Macroeconomic & Market Specific Dynamics on Stock Market Development in Global Growth Generator Countries," Asian Economic and Financial Review, Asian Economic and Social Society, vol. 3(9), pages 1152-1169, September.
    4. Massa, Massimo & Peyer, Urs & Tong, Zhenxu, 2005. "Limits of Arbitrage and Corporate Financial Policy," CEPR Discussion Papers 4829, C.E.P.R. Discussion Papers.
    5. Geert Bekaert & Campbell R. Harvey & Christian Lundblad & Stephan Siegel, 2007. "Global Growth Opportunities and Market Integration," Journal of Finance, American Finance Association, vol. 62(3), pages 1081-1137, June.
    6. Malcolm Baker & Richard S. Ruback & Jeffrey Wurgler, 2004. "Behavioral Corporate Finance: A Survey," NBER Working Papers 10863, National Bureau of Economic Research, Inc.
    7. Chiara Criscuolo & Ralf Martin, 2009. "Multinationals and U.S. Productivity Leadership: Evidence from Great Britain," The Review of Economics and Statistics, MIT Press, vol. 91(2), pages 263-281, May.
    8. De Santis, Roberto A. & Coeurdacier, Nicolas & Aviat, Antonin, 2009. "Cross-Border Mergers and acquisitions: Financial and institutional forces," Working Paper Series 1018, European Central Bank.

    More about this item

    JEL classification:

    • G31 - Financial Economics - - Corporate Finance and Governance - - - Capital Budgeting; Fixed Investment and Inventory Studies

    NEP fields

    This paper has been announced in the following NEP Reports:

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:nbr:nberwo:10559. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (). General contact details of provider: http://edirc.repec.org/data/nberrus.html .

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service hosted by the Research Division of the Federal Reserve Bank of St. Louis . RePEc uses bibliographic data supplied by the respective publishers.