The Real Effects of Political Uncertainty: Elections and Investment Sensitivity to Stock Prices
55 Pages Posted: 22 Oct 2010 Last revised: 25 Dec 2010
Date Written: December 22, 2010
We show that political uncertainty surrounding elections can affect how corporate investment responds to stock prices. In a large panel of elections around the world, investment is 40% less sensitive to stock prices during election years compared to non-election years. The decrease in investment-to-price sensitivity appears to be due to stock prices becoming less informative during election years making them noisier signals for managers to follow. Further, the drop in investment-to-price sensitivity is larger when election results are less certain, in countries with higher corruption, large state ownership, and weak standards of disclosure by politicians. Finally, we show that election uncertainty leads to inefficient capital allocation, reducing company performance.
Keywords: political uncertainty, elections, information asymmetry, capital allocation
JEL Classification: G15, G38, P16
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