Local product market competition and investment home bias

Local product market competition introduces predation risk, which could lead firms to take advantage of local, non-industry investment options to avoid pressure from their local product market competitors. However, investment within competitive local product markets tends to be inefficient due to difficulties in obtaining information and coordinating actions. This inefficiency could extend to local, non-industry-specific investments, resulting in a negative effect of product market competition on a firm’s response to local, non-industry investment opportunities. Testing these two competing views, we find that firms in competitive local product markets show higher sensitivity to local, non-industry-specific investment signals, and that such sensitivity is associated with an increase in performance and market share. These results hold when addressing the potential endogeneity issue using an exogenous shock to local product market competition, a PSM technique, and an IV estimation. Furthermore, our results show that firms in competitive local product markets are also more likely to make local, non-industry acquisitions. Lastly, our results show that firms in competitive local product markets are more responsive to local, non-industry investment opportunities, primarily when they have low cash holdings, are financially unconstrained, or have little geographical diversification.