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  • August 2003
  • Article
  • Quarterly Journal of Economics

When Does the Market Matter? Stock Prices and the Investment of Equity-Dependent Firms

By: Malcolm Baker, Jeremy Stein and Jeffrey Wurgler
  • Format:Print
  • | Pages:38
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Abstract

We use a simple model of corporate investment to determine when investment will be sensitive to non-fundamental movements in stock prices. The key cross-sectional prediction of the model is that stock prices will have a stronger impact on the investment of firms that are "equity dependent"—firms that need external equity to finance their marginal investments. Using an index of equity dependence based on the work of Kaplan and Zingales (1997), we find strong support for this prediction. In particular, firms that rank in the top quintile of the KZ index have investment that is almost three times as sensitive to stock prices as firms in the bottom quintile. We also verify several other predictions of the model.

Keywords

Stocks; Price; Investment; Equity; Forecasting and Prediction; Rank and Position; Markets

Citation

Baker, Malcolm, Jeremy Stein, and Jeffrey Wurgler. "When Does the Market Matter? Stock Prices and the Investment of Equity-Dependent Firms." Quarterly Journal of Economics 118, no. 3 (August 2003): 969–1006.
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About The Author

Malcolm P. Baker

Finance
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