Mispricing, Misallocation, and Corporate Investment

This study investigates the effect of stock market overvaluation of non-peer firms on firm investment measured by capital expenditures. To test this effect, Stambaugh et al.’s (2015) misvaluation measure and Text-Based Network Industry Classification (TNIC) codes are used. The results indicate that firm investment is negatively associated with the overvaluation of non-peer firms. Using a path analysis, it is shown that the misvaluation of non-peer firms influences firm investment through financing and non-financing channels. The financing channel mainly works via debt issuance, but the predominant part of this effect is driven by the non-financing channel. Moreover, the empirical results suggest that the effect of non-peer misvalutaion on firm investment is stronger in bubble periods. The findings are consistent with the idea that overvalued firms are more attractive to investors and other stakeholders, which crowds out firm investment of non-peer firms in other industry sectors.