Equity Market Valuation and Corporate Investments

Abstract:     
The relationship between equity market valuation and corporate investment is not clear with one research stream supporting the significant influence of equity valuation on investment while another stream deeming it a sideshow. However, unlike this study, prior literature does not account for the endogeneity between equity market returns and corporate investment for US firms. Using a simultaneous equations framework this study documents a strong and significant relationship between equity returns and corporate investment with equity prices showing a much higher impact on corporate investment than fundamental variables. The results are robust to variations in firm size, sign of firm cash flows, firm equity-dependence, and measures of equity market valuation.

Keywords: Capital Investments, Capital Budgeting, Corporate Valuation, Financing

JEL Classification: G31, G32, E44

working papers series