Capital Structure, Macroeconomic Variables & Stock Returns. Evidence from Greece

By Artikis, Panayiotis G.; Nifora, Georgia | International Advances in Economic Research, February 2012 | Go to article overview

Capital Structure, Macroeconomic Variables & Stock Returns. Evidence from Greece


Artikis, Panayiotis G., Nifora, Georgia, International Advances in Economic Research


Abstract This paper aims to investigate the impact that the capital structure of a firm has on its stock price performance. We apply regression analysis at a sample consisting of Greek listed non-financial companies over the period 1998-2009, both at the full sample level and at four leverage deciles. In doing so, we test if leverage is priced as a risk factor by constructing a leverage factor. The main contribution of our work is that we diversify capital structure studies by broadening the limited work that has been accomplished on the base of leverage as an explanatory variable of returns. Our findings show that the leverage risk factor contains significant information content and that it adds a considerable portion in the explanation of stock returns.

Keywords Asset pricing * Fama-French * Leverage * Beta * Price earnings ratio * Book-to-market ratio * Size * Momentum * Market risk premium * Athens stock exchange

JEL G11 * G12 * G32

Introduction

This paper aims to shed light on the propositions put forward by Modigliani and Miller (1958, 1963) in their seminal work concerning the relationship between firm value and the financing decision. Debt is one of the principle sources of financial risk. Rational, risk-averse investors should demand a leverage premium, indicating an expected positive relationship between a firm's leverage and stock returns.

The vast majority of studies in the area of capital structure investigate either the determinants of leverage or the existence of an optimal capital structure. Also, there arc a few studies that examine the relationship between leverage and stock returns, with contradictory results, mainly in the U.S. and U.K. market-oriented economies.

The aim of the present paper is to shed further light and to provide additional empirical evidence in the relationship between leverage and stock returns, which up to now has attracted limited attention in literature. In doing so, we treat leverage as an independent factor, in line with previous work (Hamada 1969; Bhandari 1988; Korteweg 2004; Dimitrov and Jain 2006; George and Hwang 2010), and examine whether leverage is an asset-pricing factor that can explain stock return variability.

By using leverage as an independent factor, the results of the present study can be converted to a practical tool, or a successful investment (leverage) strategy. It is an aspect where limited work has been undertaken, and to the best of our knowledge, it is the first to be undertaken in the Continental European bank environment. The completely different politico-economical, legal, and institutional framework (the arm's length system of USA and UK vs. the control-based system of Continental Europe, Drobetz and Pensa 2007, pp.8) a few previous studies have carried out justify the necessity of farther exploration of the above relationship. Thus, the main objective of the present paper is to investigate with the use of a dataset from Greece, i.e., a country from Continental Europe that has a bank-oriented economy, contributing in this way to the necessary accumulation of non-U.S. and non-U.K. research.

The importance of country-specific characteristics on the capital structure theme has been emphasized in the literature (Rajan and Zingales 1995; Psillaki and Daskalakis 2009; Oztekin 2009; Brounen et al. 2006; Andritzky 2003; Alves and Ferreira 2011). Specifically, Antoniou et al. (2008^ pp,24-25) examined firms operating in capital market-oriented economies and bank-oriented economies and concluded that the capital structure decision of a firm is not only the product of its own characteristics, but also the result of the environment and traditions in which it operates. De Jong et al. (2008, pp.24-25) give evidence that creditor right protection, bond market development, and GDP growth rate have a significant influence on capital structure issues, highlighting the importance of country-specific factors in the corporate finance field. …

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