| This dissertation studies the link between firms' external financial constraint and stock returns. Having identified the difference between financial distress and financial constraint (non-distressed), the paper investigates both problems separately. 1) Based on Bernanke, Gertler, Gilchrist (1999)'s theory on the financial accelerator, I show that firms' leverage can capture firms' exposures to distress risks. Sorting firms by their leverages and book to market ratios, the stock price only incorporates distress risk for value firms since the sensitivities of stock returns to unanticipated monetary shocks (measured in absolute values) are lower for highly leveraged growth firms. 2) I also explore the financial constraint puzzle in asset pricing literature by using Campbell and Vuolteenaho (2004)'s two-beta model. By decomposing stock's return into cash flow news and discount rate news, I am able to explain why financially constrained stocks do not yield a positive return premium over unconstrained counterparts and why financially constrained stocks tend to move together. |
