Stock Price Fragility and the Cost of Bank Loans

Abstract This study examines whether the flow volatility experienced by institutional investors affects firms’ financing costs. We use Greenwood and Thesmar’s (2011) stock price fragility to measure a firm’s exposure to its institutional investors’ flow shocks and find that firms with high stock price fragility pay much higher bank loan costs than firms with low fragility. This effect is most pronounced when lenders rely more on institutional shareholders to discipline corporate management, or when the loans are lent by relationship lenders, suggesting that unstable flows could weaken institutional investors’ monitoring effectiveness and strengthen relationship banks’ bargaining power. The paper adds to the evidence that non-fundamental risks (institutional investors’ flow shocks) can have a real impact on firms.