Market Misvaluation and Merger Activity: What Do Managers' Insider Trades Tell Us?

Abstract

This paper explores the link between stock market overvaluation and merger activity. I examine how managers recently traded in own company stock in their personal portfolios to infer whether they view their firm as overvalued or undervalued. I find that firms whose managers sold more recently are more likely to acquire other firms for stock and the subsequent mergers have negative and lower short-run and long-run abnormal returns. I also find that acquirer firm managers abnormally increase their selling of company stock before stock mergers but not before cash mergers. To the extent that managerial trading reflects overvaluation, my results can be interpreted as supporting the empirical predictions of models of misvaluation driven mergers.