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The Stock Market and Corporate Investment: A Test of Catering Theory

Christopher Polk and Paola Sapienza
The Review of Financial Studies
Vol. 22, No. 1 (Jan., 2009), pp. 187-217
Stable URL: http://www.jstor.org/stable/40056909
Page Count: 31
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The Stock Market and Corporate Investment: A Test of Catering Theory
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Abstract

We test a catering theory describing how stock market mispricing might influence individual firms' investment decisions. We use discretionary accruals as our proxy for mispricing. We find a positive relation between abnormal investment and discretionary accruals; that abnormal investment is more sensitive to discretionary accruals for firms with higher R&D intensity (opaque firms) or share turnover (firms with shorter shareholder horizons); that firms with high abnormal investment subsequently have low stock returns; and that the larger the relative price premium, the stronger the abnormal return predictability. We show that patterns in abnormal returns are stronger for firms with higher R&D intensity or share turnover.

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