Levered Returns and Capital Structure Imbalances

60 Pages Posted: 24 Jan 2017 Last revised: 5 Mar 2017

Filippo Ippolito

Universitat Pompeu Fabra - Faculty of Economic and Business Sciences; Barcelona Graduate School of Economics; Centre for Economic Policy Research (CEPR)

Roberto Steri

University of Lausanne

Claudio Tebaldi

Bocconi University, IGIER and CAREFIN

Date Written: March 4, 2017

Abstract

We revisit the relation between equity returns and financial leverage through the lens of a trade-off model with costly capital structure rebalancing. The model provides a "look-alike'' Modigliani-Miller equation that predicts that expected equity returns depend on whether a firm's leverage is above or below its target leverage. The data support the model predictions. Controlling for leverage, overlevered (underlevered) firms earn higher (lower) returns. The relation between leverage and returns is generally insignificant, while target leverage is negatively related to returns.

Keywords: Leverage, Cross Section of Returns, Target Leverage, Dynamic Capital Structure, Financial Frictions

JEL Classification: G12, G32

Suggested Citation

Ippolito, Filippo and Steri, Roberto and Tebaldi, Claudio, Levered Returns and Capital Structure Imbalances (March 4, 2017). Available at SSRN: https://ssrn.com/abstract=2903515 or http://dx.doi.org/10.2139/ssrn.2903515

Filippo Ippolito (Contact Author)

Universitat Pompeu Fabra - Faculty of Economic and Business Sciences ( email )

Ramon Trias Fargas 25-27
Barcelona, 08005
Spain
(+34) 93 542 2578 (Phone)
(+34) 93 542 1746 (Fax)

Barcelona Graduate School of Economics ( email )

Ramon Trias Fargas, 25-27
Barcelona, Barcelona 08005
Spain

Centre for Economic Policy Research (CEPR) ( email )

77 Bastwick Street
London, EC1V 3PZ
United Kingdom

Roberto Steri

University of Lausanne ( email )

Lausanne, Vaud CH-1015
Switzerland

Claudio Tebaldi

Bocconi University, IGIER and CAREFIN ( email )

Via Roentgen 1
Milan, 20136
Italy

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