Testing a Potential Signaling of Capital Structure Decisions in Transitional Market: Subset Model Selection Approach

Abstract

This paper examines the signaling role of corporate capital structure by examining their effects on corporate market value. The signaling hypothesis implies a relationship (either negative or positive) between changes in capital structure and market values. This paper examines a comprehensive number of determinants of capital structure that have been examined in the literature. The paper suggests the use of ”subset selection” based on 10 different statistical criteria as a new methodology for analyzing the potential signaling of corporate financing decisions. The final results show that (a) capital structure decisions do not have signaling effect; (b) the basic determinants of capital structure signaling in Egypt are industry type and interest rate. The contributions of this paper are: (a) it is the first attempt to employ subset selection criteria for modeling capital structure in Egypt, (b) we employ 10 subset selection criteria rather than only two that are included in most statistical analysis packages, and (c) the paper presents significant evidence that the subset model selection approach reduces the dimensionality of the model under consideration preserving almost the same explanatory power.