Abstract
The present study empirically investigates the impact of stock mispricing (i.e., overvaluation or undervaluation of stocks) on corporate investment decision of firms. Mispricing in stocks is measured by discretionary accruals while corporate investment is measured by change in fixed tangible assets. A sample of 386 non financial firms listed on Karachi stock exchange during the period 1998-2011 is analyzed in the study. Fixed effect model is employed for estimation purposes. Congruent with existing literature, the results reveal that discretionary accrual has positive and significant effect on the corporate investment. Furthermore, the impact of the higher investment is investigated on future stock returns of the firm and it is observed that the resultant higher investment ultimately leads to lower subsequent stock returns. The study therefore, concludes that mispricing of stock returns will result in higher investments which would have its adverse effects on their future stock prices.
Highlights
Firms undertake investment in anticipation of future benefits and to enhance their productivity
Estimate the effect of mispricing on corporate investment and its effect on future stock returns, panel data methodology is employed with fixed effect and random effect model
The present research aims to study the relationship of corporate investment, mispricing and stock returns
Summary
Firms undertake investment in anticipation of future benefits and to enhance their productivity. Corporate investment usually entails huge amount of resources, which are obtained through multiple sources. Stock market provides an ample opportunity for firms to raise funds as they can issue IPOs (initial public offerings) or SEOs (seasoned equity offerings). Firms can float their capital shares at prevailing prices in stock market to obtain desired funds which can later be used for investment spending. Stock prices could prove an important factor in corporate investment decisions. Several researchers like (Baker et al, 2003; Barro, 1990; Chan, Chan, Jegadeesh and Lakonishok, 2006; Gilchrist et al, 2005; Panageas, 2005; Polk and Sapienza, 2004, 2009; Stein, 1996) asserted that stock prices have a definite impact on corporate investment decision
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