How Well Do Market Timing, Catering and Classical Theories Explain Corporate Decisions?

Abstract

An important debate in corporate finance is whether CEOs exploit equity mispricing. In this article I construct a measure of the unexplained change in the CEO's stockholdings of the firm to empirically test the contrasting predictions of market timing, catering and classical theories of corporate decisions. Consistent with the predictions of classical theories, I find that the firm increases its investments and even uses expensive capital to finance investments when there is an unexplained increase in the CEO's stockholdings. However, I find no empirical support for catering predictions and weak empirical support for market timing predictions.