A Quantile Model of Firm Investment

52 Pages Posted: 13 Feb 2024 Last revised: 15 May 2024

See all articles by Heitor Almeida

Heitor Almeida

University of Illinois at Urbana-Champaign; National Bureau of Economic Research (NBER)

Murillo Campello

University of Florida - Warrington College of Business Administration; National Bureau of Economic Research (NBER)

Luciano I. de Castro

University of Iowa - Henry B. Tippie College of Business - Department of Economics

Antonio F. Galvao

Michigan State University

Multiple version iconThere are 2 versions of this paper

Date Written: January 23, 2024

Abstract

We develop a dynamic model of investment under uncertainty that captures firms' risk attitude using quantile preferences. The firm maximizes its present value, defined as current profits and investment plus the discounted value of the τ-quantile of its value next period. In our framework, τ ∈ (0, 1) parametrizes the firm's attitude toward downside risk. The model implies that the firm's investment policy equates the marginal cost of capital with the τ-quantile of the discounted present value of future marginal profits --- investment depends directly on the firm's attitude toward risk. We further integrate our model into a ``q-theory'' of investment. Numerical solutions show how heterogeneity across τ-quantiles impacts the value of the firm and investment decisions. Empirical estimations of the quantile investment model show that the strength of the relation between investment and Tobin's q increases as downside risk aversion decreases. Estimates of firms' risk attitude reveal evidence of high levels of downside risk aversion.

Keywords: Investment, quantile preferences, risk attitude, Tobin's q, recursive model

JEL Classification: D21, D25, E22

Suggested Citation

Almeida, Heitor and Campello, Murillo and de Castro, Luciano I. and Galvao, Antonio F., A Quantile Model of Firm Investment (January 23, 2024). Available at SSRN: https://ssrn.com/abstract=4704221 or http://dx.doi.org/10.2139/ssrn.4704221

Heitor Almeida

University of Illinois at Urbana-Champaign ( email )

515 East Gregory Drive
4037 BIF
Champaign, IL 61820
United States
217-3332704 (Phone)

HOME PAGE: http://www.business.illinois.edu/FacultyProfile/faculty_profile.aspx?ID=11357

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
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Murillo Campello

University of Florida - Warrington College of Business Administration ( email )

PO Box 117165, 201 Stuzin Hall
Gainesville, FL
United States

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138

Luciano I. De Castro

University of Iowa - Henry B. Tippie College of Business - Department of Economics ( email )

108 Pappajohn Building
Iowa City, IA 52242
United States

HOME PAGE: http://castroluciano.com/

Antonio F. Galvao (Contact Author)

Michigan State University ( email )

486 W. Circle Drive 110 Marshall-Adams Hall
East Lansing, MI 48824
United States

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