Abstract
This study investigates the role of shadow banking in the cross-sectional pricing of individual stocks. Using stock exposure to the shadow banking loan volume, we show that stocks in the lowest shadow banking beta quintile generate 3.6% more annualized returns compared to stocks in the highest shadow banking beta quintile. The result is consistent with Merton’s ICAPM and suggests that investors are willing to pay high prices for stocks with positive shadow banking beta and they need extra compensation to hold stocks with negative shadow banking beta. Our results remain robust after controlling for firm characteristics and formal finance beta.
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