Institutional Common Ownership and Cost of Capital

Abstract

This study examines the effect of institutional common ownership on a firm’s cost of equity capital. Recent empirical findings on common ownership yield opposing predictions: increased strategic alliance in the product market could increase the covariance of a firm’s cash flows with the other firms, leading to a higher cost of equity capital. Reduced product market risk that is in part non-diversifiable could lead to a lower cost of equity capital. In both OLS and difference-in-differences settings, we document a negative and significant relation between common ownership and the cost of equity capital. We also provide direct evidence on common ownership reduces product market predation risk, distress risk, and overall risk while increases stock liquidity. Overall, our findings indicate that common ownership offers benefits to individual firms by reducing the cost of equity financing.