What Can We Learn from Stock Prices? Cash Flow, Risk and Shareholder Welfare

Journal of Institutional and Theoretical Economics (conference issue, 2019 Forthcoming)

Columbia Law and Economics Working Paper No. 599

20 Pages Posted: 10 Dec 2018

Date Written: November 16, 2018

Abstract

Price is expected cash flows discounted at the risk-free rate and a discount for risk exposure. Price-equivalency does not always imply welfare-equivalency: shareholders are not necessarily indifferent between a price increase of $1 from higher cash flows and the same $1 increase from lower risk exposure. Even in complete markets, if managers enjoy private benefits of control, the social planner may prefer lower risk exposure to a price-equivalent increase in firm value from greater investor protection. This has implications for event studies, the tradeoff between principal costs and agency costs, and the link between macroeconomic risk and corporate governance.

Keywords: securities law, firm value, asset prices, shareholder welfare

JEL Classification: D53, G12, G34, K22

Suggested Citation

Mitts, Joshua, What Can We Learn from Stock Prices? Cash Flow, Risk and Shareholder Welfare (November 16, 2018). Journal of Institutional and Theoretical Economics (conference issue, 2019 Forthcoming); Columbia Law and Economics Working Paper No. 599. Available at SSRN: https://ssrn.com/abstract=3285605

Joshua Mitts (Contact Author)

Columbia Law School ( email )

435 West 116th Street
New York, NY 10025
United States

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