How Do Investors Perceive Greater Public Sector Investment?

65 Pages Posted: 18 May 2017 Last revised: 12 Jul 2019

See all articles by Chao Zi

Chao Zi

University of Illinois at Urbana-Champaign

Date Written: July 1, 2019

Abstract

Do expansions in public sector investment tend to benefit the U.S. economy? The answer is yes from investors' perspective. This paper takes an asset pricing approach to evaluating the overall effect of public sector investment. I propose a factor pricing model with shocks to the public sector investment share ("PUB shocks") as a risk factor. I demonstrate how a pricing kernel underpinning this factor model may endogenously arise in general equilibrium. I confront the factor model with a variety of test assets and find that PUB shocks are priced and carry a consistently positive price of risk. This finding is reinforced by another observation that arises from a sample of government contractors, in which I find that high-dependency firms (that is, firms with greater sales to government relative to their total sales) deliver a 6.5% higher average return (in annual terms) compared to low-dependency firms. Together these findings point to an overall beneficial role of public sector investment, in which an expansion is likely associated with better welfare for investors.

Keywords: Public Investment, Asset Prices, Uncertainty, Flight to Safety

JEL Classification: E44, E62, G00, G18

Suggested Citation

Zi, Chao, How Do Investors Perceive Greater Public Sector Investment? (July 1, 2019). Available at SSRN: https://ssrn.com/abstract=2970030 or http://dx.doi.org/10.2139/ssrn.2970030

Chao Zi (Contact Author)

University of Illinois at Urbana-Champaign ( email )

1206 South Sixth Street
Champaign, IL 61820
United States

HOME PAGE: http://czi.finance

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