Is Financial Flexibility a Priced Factor in the Stock Market?

31 Pages Posted: 3 Apr 2019

See all articles by Suresh Kumar

Suresh Kumar

Massey University

Udomsak Wongchoti

Massey University - School of Economics and Finance

Jianguo Chen

Massey University - School of Economics and Finance

Robert Faff

University of Queensland

Date Written: May 2019

Abstract

This paper develops a factor analysis–based measure for shifts in corporate financial flexibility (FFLEX) that can be observed from public accounting information. Companies that experience positive shifts in FFLEX are associated with higher future investment growth opportunities. We show that FFLEX is a robust determinant of future stock returns. Firms that have increased their financial flexibility are associated with lower stock returns in the subsequent period. A zero‐cost return portfolio produces a significant positive monthly premium of 0.69%, which is driven by covariance (risk). Risk inherent in the flexibility factor is not explained away by either prominent pricing characteristics or factors.

Keywords: financial flexibility, asset pricing, risk factors

JEL Classification: G11, G12, G31, G32

Suggested Citation

Oad Rajput, Suresh Kumar and Wongchoti, Udomsak and Chen, Jianguo and Faff, Robert, Is Financial Flexibility a Priced Factor in the Stock Market? (May 2019). Financial Review, Vol. 54, Issue 2, pp. 345-375, 2019. Available at SSRN: https://ssrn.com/abstract=3364525 or http://dx.doi.org/10.1111/fire.12170

Suresh Kumar Oad Rajput (Contact Author)

Massey University ( email )

Private Bag 11 222
Palmerston North, Manawatu 4442
New Zealand

Udomsak Wongchoti

Massey University - School of Economics and Finance ( email )

Private Bag 11-222
Palmerston North, 30974
New Zealand

Jianguo Chen

Massey University - School of Economics and Finance ( email )

Private Bag 11-222
Palmerston North, 30974
New Zealand

Robert Faff

University of Queensland

St Lucia
Brisbane, Queensland 4072
Australia

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