Leverage Made at Home: Investors' Margin Loan Usage and Firm Leverage
40 Pages Posted: 14 Jan 2022
Date Written: January 14, 2022
The "homemade leverage" conjecture by Modigliani and Miller (1958) implies that firm leverage and its investors' leverage are substitutes. Using the data of margin loans by Chinese stock investors, we test if investors take fewer margin loans on a stock when the company increases leverage. Based on a sample of 2,445 bank loan announcements, we find a significant decline in the use of margin loans by investors immediately after these leverage-increasing events. This effect is stronger for firms with higher institutional ownership and lower leverage. These findings suggest that investors undo the change in firm leverage by adjusting the use of margin loans, supporting the "homemade leverage" conjecture.
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