Abstract
The investment premium -- the finding that firms with low asset growth deliver high average returns -- is an integral part of recent factor models. I document empirically that the investment premium (1) reflects leverage, (2) does not exist among zero-leverage firms, and (3) increases with firms' refinancing intensities. This new evidence challenges prominent explanations of the investment premium including the q-theory of investment and behavioral finance. To explain the evidence, I develop a model in which firms make both optimal investment and financing decisions. The model shows that the investment premium reflects both leverage and refinancing intensities consistent with my empirical findings.
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