Financial leverage, corporate investment, and stock returns

Ali Ozdagli

No 09-13, Working Papers from Federal Reserve Bank of Boston

Abstract: This paper presents a dynamic model of the firm with risk-free debt contracts, investment irreversibility, and debt restructuring costs. The model fits several stylized facts of corporate finance and asset pricing: First, book leverage is constant across different book-to-market portfolios, whereas market leverage differs significantly. Second, changes in market leverage are mainly caused by changes in stock prices rather than by changes in debt. Third, when the model is calibrated to fit the cross-sectional distribution of book-to-market ratios, it explains the return differences across different firms. The model also shows that investment irreversibility alone cannot generate the cross-sectional patterns observed in stock returns and that leverage is the main source of the value premium.

Keywords: Corporations - Finance; Stocks - Rate of return (search for similar items in EconPapers)
Date: 2009
New Economics Papers: this item is included in nep-bec and nep-rmg
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (2)

Downloads: (external link)
http://www.bostonfed.org/economic/wp/wp2009/wp0913.htm (text/html)
http://www.bostonfed.org/economic/wp/wp2009/wp0913.pdf (application/pdf)

Related works:
Journal Article: Financial Leverage, Corporate Investment, and Stock Returns (2012)
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:fip:fedbwp:09-13

Ordering information: This working paper can be ordered from

Access Statistics for this paper

More papers in Working Papers from Federal Reserve Bank of Boston Contact information at EDIRC.
Bibliographic data for series maintained by Catherine Spozio ().