Lumpy Investment and Expected Stock Returns

Abstract

This study investigates the predictability of stock market returns using a novel corporate investment measure that captures the lumpiness of firm-level investment. We find that the proportion of firms with investment spikes ("spike") is a strong predictor of excess stock returns. Specifically, an increase in "spike" significantly lowers future excess stock returns. The predictive ability of "spike" is consistently observed in both in-sample and out-of-sample tests. Furthermore, "spike" shows strong predictive ability at the business cycle frequency, suggesting that its predictive ability is driven by the time-varying risk premium associated with business cycles rather than temporary mispricing.

Keywords: lumpy investment, investment spike, stock return predictability, time-varying risk premium

JEL Classification: G12, G17, G31