Analysis on Shyam-Sunder and Myers, “Testing Static Tradeoff Against Pecking Order Models of Capital Structure”, Jfe 1999
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Homework #1 Capital Structure
Shyam-Sunder and Myers, “Testing Static Tradeoff Against Pecking Order Models of Capital Structure”, JFE 1999 1. What is the main research question of the paper?
The theory of capital structure has been dominated by the search for optimal capital structure. It predicts reversion of the actual debt ratio towards a target or optimum, and it predicts a cross-sectional relation between average debt ratios and asset risk, profitability, tax status and asset type. The empirical literature seems to confirm these two predictions but they have not checked the statistical power of their tests against alternative hypotheses, say, the pecking order model.
2. What are the main findings? (1) A simple…show more content… Considering the simplicity of the model, the pecking order does very well.
Baker and Wurgler, “Market Timing and Capital Structure”, JF 2002 1. What are main findings?
Market timing has large, persistent effects on capital structure. The main finding is that low leverage firms are those that raised funds when their market valuations were high, as measured by the market-to-book ratio, while high leverage firms are those that raised funds when their market valuations were low. They concluded that capital structure is the cumulative outcome of attempts to time the equity market.
2. What are control variables used in the specification?
Market-to-book ratio Assets tangibility Profitability 2
3. How to interpret the testing results of the market time hypothesis from the table?
The net effect of high market-to-book is to lower leverage. For example at IPO + 3, a one standard deviation increase in market-to-book is associated with a 1.14 percentage-point decrease in leverage. This is consistent with the idea that firms increase equity when market valuations are high, but it does not rule out a channel through higher retained earnings or lower debt, for example. The other columns show that tangible assets tend to increase leverage (by 0.69 percentage points per standard deviation increase), profitability tends to reduce leverage (by 1.40 percentage points per standard deviation increase), and size tends to increase leverage (by 0.95 percentage