Measuring Corporate Investment Horizons and Identifying Short-Termism

Abstract

This paper proposes an empirical approach to capture investment horizons. I utilize this method to analyze short-termist investment. It relies on information which is not observable to investors in the period of investment and therefore considers the nature of short-termism as an agency problem. My empirical findings establish the validity of the introduced approach by relating it to an existing measure of investment horizons as well as multiple firm characteristics which are connected to short-termism. I observe that investment horizons are shorter for firms that inflate their reported income through real or accrual-based earnings management and for firms whose stock prices are more sensitive to earnings surprises. I also investigate which governance mechanisms are effective in curtailing short-termism. Managerial entrenchment, analyst coverage, institutional ownership, the effectiveness of the board of directors, and managerial long-term compensation all relate to longer investment horizons and thus less short-termism.

Keywords: short-termism; investment horizons; asymmetric information; corporate governance

JEL Classification: G31, G34