Corporate Policies and the Term Structure of Risk

Abstract

We build a dynamic corporate finance model with heterogeneity in the pricing and in the firm's exposure to aggregate risks of various persistence. All else equal, we show that if long-term (persistent) shocks have a higher market price than shortterm (temporary) shocks, firms shorten the horizon of corporate policies, favoring payouts over investment. In the cross section, this effect is stronger for firms more exposed to long-term shocks, but can be reversed for firms more exposed to shortterm shocks. Our analysis is extended to embed time variation in risk prices over the business cycle, motivated by recent evidence on the term structure of equity.

Understanding Cash Flow Risk

“…This general cash flow model has been proposed byDécamps et al (2017), who show that cash policy, equity issuance and credit line usage depend on the combination of all the cash flow parameters. More recently, a similar cash flow model has been used to explain compensation policy (see, e.g.,Gryglewicz, Mayer, and Morellec, 2020), debt policy (see, e.g.,Bolton, Wang, and Yang, 2021), financial development (see, e.g.,Rebelo, Wang, and Yang, 2020), or the horizon of corporate policies (see, e.g.,Breugem, Marfe, and Zucchi, 2021).…”