Is Firm-Level Political Exposure Priced?

52 Pages Posted: 13 Nov 2019 Last revised: 30 Apr 2021

See all articles by Evgenii Gorbatikov

Evgenii Gorbatikov

London Business School

Laurence van Lent

Frankfurt School of Finance and Management

Narayan Y. Naik

London Business School - Institute of Finance and Accounting

Varun Sharma

London Business School

Ahmed Tahoun

London Business School

Date Written: November 4, 2019

Abstract

The effect of economy-wide political uncertainty on stock market returns is well documented in the literature. However, in order to take a stand on the relation between firm-specific political risk and the cross-section of stock returns, we need a measure independent of those returns. Using a machine-learning based firm-specific measure of political risk, we show that political risk is priced in the cross-section of stock returns. On average, a one standard deviation increase in a firm's political risk is associated with a 0.5% to 1.0% increase in their annual returns. Using a related non-price measure that captures the mean of a firm's political-shocks, we disentangle whether the asset pricing implications of political risk stem from news about the discount rate or future cash flows. We further show that political risk is priced only for firms that do not actively manage political risk. Finally, using a natural language processing (NLP) enabled measure of risk associated with political topics, we examine how (and to what extent) sub-components of political risk are priced.

Keywords: Political Risk, Asset Pricing, Political Donations, Natural Language Processing, Machine Learning

JEL Classification: D72, G12, G14, G32

Suggested Citation

Gorbatikov, Evgenii and van Lent, Laurence and Naik, Narayan Y. and Sharma, Varun and Tahoun, Ahmed, Is Firm-Level Political Exposure Priced? (November 4, 2019). TRR 266 Accounting for Transparency Working Paper Series No. 9, Available at SSRN: https://ssrn.com/abstract=3480494 or http://dx.doi.org/10.2139/ssrn.3480494

Evgenii Gorbatikov

London Business School ( email )

Sussex Place
Regent's Park
London, London NW1 4SA
United Kingdom

Laurence Van Lent

Frankfurt School of Finance and Management ( email )

Adickesallee 32-34
Frankfurt am Main, 60322
Germany

HOME PAGE: http://www.laurencevanlent.org

Narayan Y. Naik

London Business School - Institute of Finance and Accounting ( email )

Sussex Place
Regent's Park
London NW1 4SA
United Kingdom
+44 20 7262 5050 (Phone)
+44 20 724 3317 (Fax)

Varun Sharma (Contact Author)

London Business School ( email )

Sussex Place
Regent's Park
London, London NW1 4SA
United Kingdom

Ahmed Tahoun

London Business School ( email )

Sussex Place
Regent's Park
London, London NW1 4SA
United Kingdom

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