Navigating the Trade-Offs: The Impact of Aggressive Working Capital Policies on Stock Return Volatility

Chun-Hao Chang, Julia Chou () and Krishnan Dandapani
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Chun-Hao Chang: College of Business, Florida International University, Miami, FL 33199, USA
Julia Chou: College of Business, Florida International University, Miami, FL 33199, USA
Krishnan Dandapani: College of Business, Florida International University, Miami, FL 33199, USA

JRFM, 2025, vol. 18, issue 3, 1-21

Abstract: This paper examines the relationship between a firm’s working capital policy and the volatility of its stock returns. We find that a firm with an aggressive working capital policy tends to exhibit a higher level of return volatility. This finding is robust across years and industries after controlling for factors such as financial stability and sales growth. Our results further indicate that aggressively managed working capital policy affects return volatility through idiosyncratic risk. A decrease in working capital results in the contemporaneous and subsequent increases of return volatility. Our evidence is consistent with the conjecture that there is an important link between a firm’s working capital policy and its stock return volatility. Thus, firm managers must incorporate the potential costs associated with higher stock return volatility into their working capital decision-making when adopting a tightened working capital policy.

Keywords: working capital policy; return volatility; market risk; idiosyncratic risk; working capital management (search for similar items in EconPapers)
JEL-codes: C E F2 F3 G (search for similar items in EconPapers)
Date: 2025
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