Do Nonfinancial Firms Use Financial Assets to Take Risk?
42 Pages Posted: 8 Dec 2018 Last revised: 23 Mar 2020
Date Written: May 1, 2019
Using hand-collected data on financial asset portfolios, we investigate corporate risk-taking through risky financial investments. We find that distressed firms with large short-term liabilities substantially increase their investments in risky financial assets, including corporate debt, equity, and mortgage-backed securities. The effects are stronger when collateral assets are lower. Overall, we provide new evidence that distressed firms take risk using financial assets camouflaged as cash reserves, which, compared to real assets, are less visible, unrestricted by debt covenants, and carry lower transaction costs and accelerated payoffs. The results highlight the role of debt maturity and collateral in risk-taking at distressed firms.
Keywords: Investment Securities, SFAS 157, Fair Value, Cash Holdings, Collateral, Distress
JEL Classification: G30, G32, G33
Suggested Citation: Suggested Citation