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Market Sentiment and Innovation Activities

  • Tri Vi Dang and Zhaoxia Xu
Abstract

We investigate potential mechanisms through which market-wide sentiment affects firms’ innovation activities. We provide evidence for the financing channel by showing that financially constrained firms are more likely to issue equity and invest more in research and development (R&D) than financially unconstrained firms at high market sentiment. Using time-varying manager sentiment measures, we find suggestive evidence for a sentiment spillover channel whereby market sentiment affects R&D investments through influencing manager sentiment. Furthermore, better patent portfolios are produced from R&D investments stimulated by high market sentiment. Market sentiment has a stronger impact on R&D than the capital expenditures of financially constrained firms.

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Corresponding author
* Dang, td2332@columbia.edu, Columbia University Department of Economics; Xu (corresponding author), zhaoxia.xu@unsw.edu.au, University of New South Wales (UNSW) Business School, School of Banking and Finance.
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We thank an anonymous referee, Viral Acharya, Soku Byoun, Gary Gorton, Paul Malatesta (the editor), Bernard Salanie, Robert Shiller, Harald Uhlig, and participants at the 2013 Applied Economics Workshop at Columbia University and the 2014 Tsinghua University Finance Workshop for very helpful comments.

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