A tale of two Us: Corporate leverage and financial asset allocation in China |
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| Affiliation: | 1. School of Finance, Capital University of Economics and Business, Beijing, China;2. Guanghua School of Management, Peking University, Beijing, China;3. School of Finance, Central University of Finance and Economics, Beijing, China;1. Department of Mathematics and School of Economics and Management, University of Bologna, Bologna, Italy;2. Department of Economics, Society and Politics, University of Urbino Carlo Bo, Italy;3. Department of Economics, University of Bamberg, Germany;1. Faculty of Business, City University of Macau, Macau, China;2. School of Business, Macau University of Science and Technology, Macau, China;1. Middle East Technical University, Faculty of Economics and Administrative Sciences, Department of Business Administration, Dumlupınar Bulvarı, Ankara 06800, Turkey;2. Bilkent University, Faculty of Business Administration, Department of Management, Bilkent, Ankara 06800, Turkey |
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| Abstract: | Firms choose to make liquid and illiquid financial investments due to different motives and, therefore, how they relate to corporate leverage may exhibit different non-linear shapes. On the one hand, firms hold liquid financial assets to hedge against external uncertainty and liquidity shocks based on the “precautionary saving” motive. This implies a positive U-shaped relationship between the leverage ratio and liquid financial asset allocation. On the other hand, firms allocate illiquid financial assets due to the “investment substitution” motive to earn high yields. This leads to an inverted U-shaped relationship between the leverage ratio and illiquid financial asset holdings. Using financial data of Chinese listed firms from 2007 to 2017, we verify the above theoretical predictions. Further analysis finds factors such as internal and external risks, financing environment, and total factor productivity to be important determinants of corporate financial asset allocation. |
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