Impacts Of Stock Overvaluation On Listed Companies’ Investment Amounts And Efficiency In China

Stock markets are considered as barometers for the economies typically, however, divergence of stock markets rising and falling sharply from real economies happens. In the 1920’s, 1930’s, 1980’s and 1990’s as well as earlier this century, the United States see coexisting of stable entity economy and bad volatility in stock markets. As to China, the cases are even worse. For many years, the GDP growth keeps a surprisingly pace of 10% in average while the stock markets fluctuate sharply, and even in relatively sober years, the increasing rates in stock market are not consistent with that of the economy. The divergence implies, in certain way, that stock markets’ impacts on real economies are far more important than their basic function of being economic accelerators.Furthermore, stock prices of listed companies, which are important micro entities to the economies, often tell different stories from the companies’ basics, being overvalued or undervalued. The 10-year Average Tobin’s Q of Chinese SME board listed companies, which equals to 2.372, implies “A shares” are overvalued, a case that can be justified by “A shares” premiums to “H shares”. A research on stock overvaluation is a microeconomic start to study the relations between stock markets and macro economies.Given finance’s function of facilitating entity economy, a study on stock market should not only be constrained to virtual economic topics, but also be extended to real invest decision-making by listed companies, specifically, their invest amounts and efficiency. Therefore, the divergence in macroeconomic world can be examined in terms of microeconomic research on stock misevaluation’s impacts on companies’ entity investments. A transformation from macro issues to micro fundamentals and from stock market system improvement against the “casino talk” to listed companies’ entity invest amounts and invest efficiency makes any related researches more specific, more targetable, more operative for companies and more meaningful for the governments making reasonable policies. Therefore, it is the essential task of this paper to research, under a background that Chinese economy volatiles and goes worse, on stock overvaluation’s impacts on Chinese listed companies’ entity invest amounts and related efficiency in the hope to find specific mechanisms and paths that virtual economy facilitates entity economy.This paper consists of six parts in the thoughts of presenting theoretical model of impacts of stock misevaluation on publicly traded companies’ investment; empirical tests on theoretical hypotheses; attribution analysis of related impacts, and presenting theoretical hypotheses on impacts of stock misevaluation on publicly traded companies’ investment efficiency; empirical tests on those hypotheses; attribution analysis of impacts on investment efficiency.Chapter 1 makes Introduction as to research background, importance, structure and possible innovations.Chapter 2 makes literature review regarding basic theories of stock misevaluation and company investment decision-making, including rational bubble theories, behavioral theories of bubble, Tobin’s Q theory, information asymmetry theories, agent theories, market timing theory, pecking order theory of finance and related theories about relation between stock misevaluation and company investment. By reviewing how former researches explore market extra volatility feature and correlation between stock misevaluation and company investment, this paper aims to discuss whether stock overvaluation affects listed companies’ investment amounts, whether stock overvaluation positively related to the investment amounts, how any relationship occurs, whether the relation causes inefficient investment. In the end of this chapter, former research constraints and implies to this paper’s research are presented.There are theoretical controversies about how stock misevaluation affects company investment, following by inconsistent empirical evidence. Further discussion falls on whether stock overvaluation affects company investment, whether XI the affect occurs through offerings and whether the reason behind is capital costs. This paper assumes the following: Based on Tobin’s Q theory, listed companies making offerings when its stocks are overvalued because the costs of new offerings are relatively low especially when the companies are equity-dependent or financially constrained, and the companies invest in potential projects by being cheaply financed. However, this logic is not thoroughly explained and proved, either making theoretical analyses under various assumptions, or empirical tests from various samples, and ignoring some logical subjects. It is of vital importance to make thoroughly analysis of related impacts, mechanisms and attribute analyses.In Chapter 3, it is presented that equity financing mechanism is an important way that stock overvaluation affects listed companies’ investment by formulating a theoretical model. A meaningful difference this paper makes from former research model could be a discussion on stock overvaluation’s impacts on listed companies’ investment inefficiency combined with investment amounts, aiming at finding a unified model linking stock overvaluation’s impacts both on listed companies’ investment amounts and inefficiency.Based on an optimization model, because of a given optimal investment amount, whether listed companies are equity dependent, making offerings or not, stock misevaluation, including overvaluation, would not affect investment amount. This conclusion is not consistent with Baker(2003) and the major contradiction for former research. This paper assumes that the hypothesis of a given optimal investment amount is not practical. In reality, companies either fail financing all target projects because of capital lacks, or make aimless expansions because of manager’s “empire building” and compulsive consumptions when in position. Also, the theoretically optimal investment amount changes with economical and financial conditions. Meanwhile, behavioral finance literatures also find that managers imply overconfidence. Therefore, companies expand all the time, i.e., equity dependent companies make every effort to finance and invest, and those who is not lack of capitals or have accomplished target investments also use more capitals to invest in other projects. Obviously, the new funds from new offerings are not necessarily invested in real projects, for example, being invested in savings, dividends or financial markets, and this is also empirically tested in this paper.Empirical tests on stock overvaluation’s impacts on investment amounts and related mechanisms are presented in Chapter 4. In the first, former empirical researches are discussed and analyzed, being this chapters’ reference and contrasts. Then, using samples form small and medium sized enterprise board, SME board for short, based on Tobin’ Q model controlling basic variables, this chapter analyzes stock overvaluation’s impacts on investment amounts, taking theoretical model assumptions in Chapter 3 into consideration. At last, the equity financing mechanism that is formulated in Chapter 3 are tested, by two steps: 1. a test on whether overvaluation promotes seasonal offerings; 2. whether offering companies make more investments. The following is to make attribution analysis of overvaluation’s impacts on investment amounts. The basic idea is to explain the reasons why overvaluation affects companies’ investment amount, from the perspective monetary theory, by doing regressions and correlation analyses on capital costs and credit substitution.The Tobin’s Q theory assumes that listed companies choose to make offerings when their stocks are overvalued, and take any financing to invest. That gives a theoretical possibility that stock overvaluation may directly affect companies’ invest amounts. Here comes a real question that whether the seasonal offerings made when overvaluation happens are invested in real projects. Three empirically testable hypotheses are presented according to theoretical analyses made in Chapter 4, i.e., H1: Stock misevaluation affects listed companies’ real invest amounts, H2: Seasonal offerings connect overvaluation and investment amounts, and H3: For equity dependent companies, overvaluation is more likely to cause increases in invest amounts. Those three hypotheses purport consequently to whether stock misevaluation’s impacts on invest amount exist, mechanisms for any impacts and reasons why any impacts occur, and are tested by running POLS and FE regressions on Tobin’s Q in a benchmark model controlling basic variables including year and market factors, using both balance and imbalance panel data, and market groups and company groups. In the robustness tests, a robust conclusion is made by fixing XIII endogenous problems which are tricky econometric ones in corporate finance through dynamic panel GMM and PSM. In addition, by examining rising and falling markets scenarios, overvaluation and devaluation scenarios, it is found that the reason why making seasonal offerings in rising market is not necessarily because the companies lacks funds, and that overvaluation, relative to devaluation, is more likely to promote offerings and real invests. At last but not least, attribution analyses are made to identify whether overvaluation’s impacts on companies’ real invests are of monetary reasons. Theoretical analyses made in this part imply that capital costs and fund availability may be important reasons. Thus, a regression is run based on the benchmark model, in which financial constraint or equity dependency is used as a proxy for capital costs, and commercial credit and bank credit as proxies for credit abilities. It is found that with regard to financially constrained and credit incapable companies, invests are more sensitive to overvaluation, which means the seasonal offerings in overvaluation is made by measuring capital costs, and substitute for current credits.Based on the proved relationships between stock overvaluation and listed companies’ invest amounts in former chapters, Chapter 5 further the research on overvaluation’s impacts on companies’ investment inefficiency. Firstly, related former researches about listed companies’ investment inefficiency are reviewed, after this goes a comparison of ways for measuring companies’ invest inefficiency, and based on which, three research hypotheses are presented. Before testing related impacts, a Vogt test is employed to check whether Chinese listed companies’ invests are inefficient or not. Then, based on benchmark model controlling basic variables, and the residuals from Richardson’s residual measuring model being proxies for inefficient invest amounts, stock overvaluation is tested for companies’ overinvestment and underinvestment. Furthermore, with the same benchmark model, POLS and FE regressions are run on stock bubbles whose proxies are set to be the difference between real q and expected q, with companies’ inefficient invest amounts as explained variables and controlling basic year variables as well as industry and year dummy variables, in order to identify impacts on inefficient invests made by Chinese listed companies of bubbles that represent special stock overvaluation, and to what extent the bubbles explain companies’ inefficient invests.Investment inefficiency is a topic different to investment amounts, the research focuses of which lay on resource misallocation, representing big variance of investment efficiency in math. Therefore, based on the related theoretical research stated above, the following empirically testable hypotheses are presented, i.e., H4: Stock overvaluation decreases listed companies’ invest efficiency in terms of overinvestment, H5: Stock overvaluation is one of the major reasons for Chinese listed companies’ inefficient invests, and H6: The worse companies’ overinvestment is, the more significant overvaluation’s negative impacts on investment efficiency are. Those three hypotheses purport consequently to whether stock overvaluation’s impacts on invest inefficiency exist, to what extent overvaluation explains inefficiency, and reasons why any impacts occur, and are tested by running POLS and FE regressions on overvaluation amounts in a benchmark model controlling basic variables including year and market factors. Given the tough problems bout inefficiency and overcapacity in China, the bubbles describe above are tested for their possible impacts on Chinese listed companies’ inefficient invests. In the robustness tests, a robust conclusion is made by fixing endogenous problems through dynamic panel GMM. In the end of Chapter 5, information asymmetry theories, bubble theories and agent theories are referenced in attribution analyses to find reasons for impacts of overvaluation on invest inefficiency. It is found that increasing inventory is both the result of and reason for impacts of overvaluation on invest inefficiency, and that another reason goes to overinvestment compulsion that can be summarized as a mechanism when the case such as information asymmetry in seasonal offerings and following investment, institutional investors’ short – term controlling for speculative reasons when the related companies’ stocks are overvalued, and managers’ overconfidence occurs.Main research conclusions, policy suggestions, this paper’s defects and future research outlook are arranged in Chapter 6 at last. The major conclusion by research can be summarized that stock overvaluation, in many possible ways, increases capital XV goods investments, which happen to be inefficient in terms of overinvestment in many occasions. Theoretically speaking, the conclusions from this paper imply the robustness of Tobin’s Q theory based on Chinese experience and data, and a suggestion of theoretical reconsideration as to the invest efficiency. By practical meaning, a divergence between stock price and companies’ basic nature do affect their invest amounts and efficiency, a conclusion explaining from microeconomic view how stock markets affect macro economy.The possible research innovations made by this paper fall into four aspects:First, Tobin’s Q theory is expanded to do tests on companies’ invest inefficiency. As research foundation, Tobin’s Q theory is tested in Chinese scenario. In the contrast to controversies of former researches, this paper confirms the robustness of Tobin’s Q theory in China. Moreover, a theoretical development is presented in this paper, i.e., the reason for stock overvaluation’s impacts on increasing invests is not only equity dependence, but also the compulsion for overinvestment. For the bright side, this compulsion promotes financial resources applying to real economy. For the other side, it means inefficient invests. This paper takes it as significant tasks to explore and test mechanism linking stock overvaluation and companies’ investment, to help companies find the most valuable invest decisions, and to improve the governments’ economic intervention.Second, this paper also presents empirical evidence for Tobin’s Q theory’s assumption that the seasonal offerings link stock overvaluation and companies’ investment in a two-step test which includes one test on whether seasonal offerings happen when stocks are overvalued and another test on whether the funds financed are used for real invests. Given the tough problems bout inefficiency and overcapacity in China, the bubbles are tested for any possible impacts on Chinese listed companies’ inefficient invests. Innovative research methods and perspectives are also employed including financing constraints, POLS and FE methods, balance and imbalance panel data, market grouping and company grouping, GMM and PSM tests to make sure the robustness of the results.Third, attribution analyses complete the research logic of this paper, and make it more meaningful. As to invest amounts, empirical results imply that capital costs and credits substitutions attribute to the reason why listed companies make seasonal offerings to finance and invest in targeted projects when stock overvaluation occurs. With regards to invest inefficiency, results of quantile regression reasoned from information asymmetry theories, stock bubbles theories and agent theories show that invest compulsions attribute to stock overvaluation’s impacts on overinvestment by listed companies.Four, this paper makes microeconomic researches on macroeconomic topics, i.e., taking micro data and perspectives to examine stock overvaluation’s impacts on entity invests. The SME board listed companies are perfect samples for this paper. This falls into four reasons: First, these companies are elite in their repective industry as to size, outputs, growth and innovation, thus they are typical sample. Second, the main board listed companies are not typical enterprises because they are stated-owned and are strongly controlled by and politically related to the government, while the venture board and the National Equities Exchange and Quotations are less stipulative in terms of corperate governance and information exposure. The SME board contains balanced amounts of stated-owned and non-stated-owned companies and is more normalized in market regulations, so its listed companies are typical “micro entities” in the market. Third, given the same market governance and macroeconomic background, the typical features of econometric samples makes no enssential difference. At last, Chinese stock markets are better empirical samples for this paper than developed markets such as the U.S. because they are more volatile and overvalued, and also are more significant in equity dependence and overinvestment.This paper confronts a few defects which future researches could improve. First, the theoretical base of this paper is a reference to the classic theory of Tobin’s Q, and is developed to analyze companies invest inefficiency for a reasonable logic. However, this development for logical reason lacks of originality. Second, stock overvaluation is measured by Tobin’s Q. A Q bigger than 1 is defined as overvaluation; smaller ones are defined as undervaluation. Besides the obvious advantages of this, the drawback is this measurement is not the latest method. Although a relative new measuring for bubbles is used for testing bubble’s impacts on inefficient investment, other parts is unified to the classic measuring for stock overvaluation. If future researches go to focus on overvaluations’ specific impacts on certain aspects of inefficient investment, the latest methods could be better. Third, one of this paper’s theoretical significance is to do microeconomic research based on listed companies for macroeconomic topics about the relationship between stock markets and the real economy. However, this meaningful perspective fails to explain related macroeconomic treatments. Thus, it could be an ideal research direction to discuss companies’ microeconomic behavioral impacts on macroeconomic trends and policies.