Institutional Cross-Ownership of Peer Firms and Investment Sensitivity to Stock Price

Abstract

Theory suggests that stock price guides managers in corporate decisions as managers learn from price. We reason that cross-ownership of industry peers lowers information processing costs and increases industry specialization, helping investors better produce private information and transmit it to stock price. Cross-ownership can thus increase managerial learning from stock price in investment decisions. Consistent with our expectations, we find that a firm’s investment-q sensitivity increases as its cross-ownership in peer firms increases, in particular when information signals are not highly correlated between managers and outsiders. Moreover, we find that a pseudo measure of cross-ownership in non-peer firms is not positively but, rather, negatively associated with the investment-q sensitivity. We strengthen the causal inference by conducting a difference-in-differences analysis using the 2003 mutual fund scandal. Overall, our results suggest that cross-ownership in peer firms can induce more efficient corporate decisions by helping prices better reflect investors’ private information.