Limits-to-Arbitrage, Investment Frictions, and the Asset Growth Anomaly

Posted: 10 Apr 2011 Last revised: 11 Jan 2019

See all articles by FY Eric Lam

FY Eric Lam

Hong Kong Monetary Authority - Hong Kong Institute for Monetary Research (HKIMR)

K.C. John Wei

Hong Kong Polytechnic University

Date Written: 2011

Abstract

We empirically evaluate the predictions of the mispricing hypothesis with limits-to-arbitrage suggested by Shleifer and Vishny (1997) and the q-theory with investment frictions proposed by Li and Zhang (2010) on the negative relation between asset growth and average stock returns. We conduct cross-sectional regressions of returns on asset growth on subsamples split by a given measure of limits-to-arbitrage or investment frictions. We show that: (i) proxies for limits-to-arbitrage and proxies for investment frictions are often highly correlated; (ii) the evidence based on equal-weighted returns shows significant support for both hypotheses, while the evidence from value-weighted returns is weaker; and (iii) in direct comparisons, each hypothesis is supported by a fair and similar amount of evidence.

Keywords: Asset growth, Capital investment, Stock returns, Investment frictions, Limits-to-arbitrage

JEL Classification: G14, G31, M41, M42

Suggested Citation

Lam, Full Yet Eric Campbell and Wei, Kuo-Chiang (John), Limits-to-Arbitrage, Investment Frictions, and the Asset Growth Anomaly (2011). Journal of Financial Economics 102 (2011) 127-149, Available at SSRN: https://ssrn.com/abstract=1805735

Full Yet Eric Campbell Lam

Hong Kong Monetary Authority - Hong Kong Institute for Monetary Research (HKIMR) ( email )

55/F, Two International Finance Centre,
8 Finance Street, Central
Hong Kong
China

Kuo-Chiang (John) Wei (Contact Author)

Hong Kong Polytechnic University ( email )

11 Yuk Choi Rd
Hung Hom
Hong Kong

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