Information, Diversification, and Cost of Capital

54 Pages Posted: 7 Feb 2005  

John S. Hughes

University of California at Los Angeles

Jing Liu

The Cheung Kong Graduate School of Business

Jun Liu

University of California, San Diego (UCSD) - Rady School of Management

Date Written: December 16, 2004

Abstract

We investigate the effects of information and diversification on cost of capital in a noisy rational expectations model. Assuming a factor structure for risky asset payoffs and two classes of investors, informed and uninformed, we show that in large economies the APT (Ross, 1976) holds and i) information from private signals about idiosyncratic shocks has no effect on cost of capital and ii) information from private signals about systematic factors affects cost of capital only through factor risk premiums; there is no effect on factor loadings. These results imply that there are no cross-sectional effects of information on cost of capital within large economies.

Keywords: information, diversification, cost of capital

JEL Classification: G14, G13, G12

Suggested Citation

Hughes, John S. and Liu, Jing and Liu, Jun, Information, Diversification, and Cost of Capital (December 16, 2004). AFA 2006 Boston Meetings Paper. Available at SSRN: https://ssrn.com/abstract=651944 or http://dx.doi.org/10.2139/ssrn.651944

John S. Hughes (Contact Author)

University of California at Los Angeles ( email )

D410 Anderson Complex
Los Angeles, CA 90095-1481
United States
310-794-9553 (Phone)
310-267-2193 (Fax)

Jing Liu

The Cheung Kong Graduate School of Business ( email )

1 East Changan Avenue, Oriental Plaza
E3/3F
Beijing
China

Jun Liu

University of California, San Diego (UCSD) - Rady School of Management ( email )

9500 Gilman Drive
Rady School of Management
La Jolla, CA 92093
United States
858.534.2022 (Phone)
5858.534.0745 (Fax)

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