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What explains the value premium? The case of adjustment costs, operating leverage and financial leverage

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  • Cao, Viet Nga

Abstract

This paper empirically examines and compares the different theoretical predictions on how adjustment costs, operating and financial leverage influence the value premium. Consistent with Ozdagli (2012), financial leverage plays a dominant role, supported by adjustment costs (which represent the degree of investment irreversibility). Specifically, the observed value premium is driven by the financial leverage differences between value and growth firms, partially neutralized by investment irreversibility. The relation between the value premium and investment irreversibility is contrary to the intuition in Zhang (2005) and Cooper (2006). Operating leverage does not significantly influence the value premium.

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  • Cao, Viet Nga, 2015. "What explains the value premium? The case of adjustment costs, operating leverage and financial leverage," Journal of Banking & Finance, Elsevier, vol. 59(C), pages 350-366.
    • Handle: RePEc:eee:jbfina:v:59:y:2015:i:c:p:350-366
    DOI: 10.1016/j.jbankfin.2015.04.033
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    More about this item

    Keywords

    Value premium; Investment irreversibility; Adjustment costs; Operating leverage; Financial leverage;
    All these keywords.

    JEL classification:

    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading

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