FIN-04-013 |
NYU Stern School of Business |
May 2004
Malcolm Baker, C. Fritz Foley and Jeffrey Wurgler
ABSTRACT
Foreign direct investment offers a rich laboratory in which to study the broader economic effects of securities market
mispricing. We outline and test two mispricing-based theories of FDI. The "cheap assets" or fire-sale theory views FDI
outflows as a natural use of the relatively low-cost capital available to overvalued firms in the source country. The
empirical results support the cheap capital view: FDI flows are unrelated to host country stock market valuations, as
measured by the aggregate market-to-book-value ratio, but are strongly positively related to source country valuations
and negatively related to future source country stock returns. The latter effects are most pronounced in the presence
of capital account restrictions, suggesting that such restrictions limit cross-country arbitrage and thereby increase
the potential for mispricing-driven FDI.
Malcolm Baker
Institution: Harvard Business School
Email: mbaker@hbs.edu
C. Fritz Foley
Institution: University of Michigan
Email: ffoley@umich.edu
Jeffrey Wurgler
Institution: Stern School of Business, New York University
Phone: (212) 998-0367
Fax: (212) 995-4233
Email: jwurgler@stern.nyu.edu
Home Page: http://www.stern.nyu.edu/~jwurgler/
To download a copy of this paper click here
To request a copy of this paper click here
|