The Stock Market and Investment: Evidence from FDI Flows

39 Pages Posted: 3 Nov 2008

See all articles by Malcolm P. Baker

Malcolm P. Baker

Harvard Business School; National Bureau of Economic Research (NBER)

C. Fritz Foley

Harvard University - Business School (HBS); National Bureau of Economic Research (NBER)

Jeffrey Wurgler

NYU Stern School of Business; National Bureau of Economic Research (NBER)

Multiple version iconThere are 7 versions of this paper

Date Written: May 2004

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 countryvaluations 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

Baker, Malcolm P. and Foley, C. Fritz and Wurgler, Jeffrey A., The Stock Market and Investment: Evidence from FDI Flows (May 2004). NYU Working Paper No. FIN-04-013. Available at SSRN: https://ssrn.com/abstract=1294448

Malcolm P. Baker

Harvard Business School ( email )

Boston, MA 02163
United States
617-495-6566 (Phone)

HOME PAGE: http://www.people.hbs.edu/mbaker

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

C. Fritz Foley

Harvard University - Business School (HBS) ( email )

Soldiers Field Road
Morgan 270C
Boston, MA 02163
United States
617-495-6375 (Phone)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Jeffrey A. Wurgler

NYU Stern School of Business ( email )

Stern School of Business
44 West 4th Street, Suite 9-190
New York, NY 10012-1126
United States
212-998-0367 (Phone)
212-995-4233 (Fax)

HOME PAGE: http://www.stern.nyu.edu/~jwurgler/

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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