Short-Term Investors, Long-Term Investments, and Firm Value: Evidence from Russell 2000 Index Inclusions

Abstract

We document that an increase in short-horizon investors is associated with cuts to long-term investment and increased short-term earnings. This leads to temporary boosts in equity valuations that reverse over time. To estimate these effects, we use difference-in-differences regressions around firms’ additions to the Russell 2000, comparing firms with large and small increases in short-term ownership. We proxy for the presence of short-term investors using ownership by transient institutions. Our results suggest that short-term pressures by investors can lead to myopic firm behavior. This paper was accepted by Shiva Rajgopal, accounting.

The more we know, the less we agree: A test of the trading horizon heterogeneity theory

“…For example, Crane et al (2016) find that a causal and positive effect of index inclusion on institutional ownership is evident for transient investors, but not for dedicated owners. Similar evidence excluding long-term or dedicated investors from those that react to Russell Index reconstitutions at the threshold is provided by Boone and White (2015) and Cremers et al (2020), among others. Accordingly, exploiting this threshold as a source of exogenous variation in transient ownership, we implement a regression discontinuity design (RDD) and obtain evidence consistent with our baseline analyses.…”

Institutional investors' horizons and corporate employment decisions

“…Managers concerned with short-term results may therefore engage in earnings management (e.g., Bushee, 1998) while under-investing to temporarily boost the short-term stock price (Bolton et al, 2006), especially if their actions are not likely to be detected and/or do not lead to wealth extraction from shareholders. Empirically, Cremers et al (2019) provide causal evidence that the presence of short-horizon investors has a positive impact on short-term earnings but a negative one on long-term investment.…”

Governance structure, technical change, and industry competition

“…In addition, Brossard et al (2013) show that the presence of institutional investors promotes R&D investments as long as impatient investors are not dominating. Similarly, Cremers et al (2020) provide evidence that the presence of short-term institutional investors is associated with cuts to R&D investments in order to generate higher earnings and temporary boosts in the stock price. The evidence provided by the above studies leads us to state the first stylized fact: SF1 A strong presence of impatient (short-term) investors among the shareholders of a firm has a negative effect on firm R&D activities.…”