Asset Pricing Implications of Strategic Trading and Activism
75 Pages Posted: 11 Nov 2018
Date Written: October 19, 2018
This paper studies the asset pricing implications of investor activism. We consider a setting where a blockholder can both trade the firm’s shares and influence the firm value by exerting costly effort. The blockholder’s ability to add value varies over time. To understand the effects of blockholder transparency, we consider two regimes: one in which the market observes the blockholder’s ability and another where it does not. i) When the market observes the blockholder’s ability, the blockholder’s trading is characterized by Coasian dynamics: despite his large size, the blockholder is unable to exploit his market power and trades at a competitive price. Furthermore, when his ability to add value increases, the blockholder sells shares which in turn diminishes his incentives to boost the firm’s productivity. ii) By contrast, when the blockholder privately observes his ability, the dynamics of trading and activism change drastically: as the blockholder’s ability improves, he buys shares. He does so gradually to mitigate the price impact of his trading. As the blockholder’s stock-holdings grow, a virtuous circle unravels that boosts the firm’s productivity and reduces the firm’s cost of capital. In the long-run, the presence of information asymmetry about blockholder ability leads to a more concentrated ownership, more intense activism, and higher firm productivity. However, it also leads to more volatile cash flows, and a higher risk-premium. The implications for the firm’s stock price are ambiguous.
Keywords: Activism, Strategic Trading, Asset Pricing
JEL Classification: D72, D82, D83, G20
Suggested Citation: Suggested Citation