Air pollution and institutional investors' valuation bias during initial public offerings

Abstract

We examine the effect of day-to-day and geographic variation in air pollution on the bidding behavior of institutional investors in Chinese IPO auctions. We find that institutional bidders who are exposed to more severe air pollution submit more pessimistic (lower) bids. We construct an instrumental variable based on the wind speed to further establish the causal relation between air pollution and institutional investors' valuation bias. Air pollution-induced bias is amplified under more depressing environmental conditions, in IPOs with greater information uncertainty, and among inexperienced bidders. Moreover, institutional bidders affected by air pollution obtain fewer share allocations and earn lower returns. Finally, air pollution-induced bias in aggregate can negatively affect the pricing efficiency of IPOs.