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Article: A Regret Theory of Capital Structure

TitleA Regret Theory of Capital Structure
Authors
Issue Date2015
PublisherElsevier. The Journal's web site is located at http://www.elsevier.com/locate/frl
Citation
Finance Research Letters, 2015, v. 12, p. 48-57 How to Cite?
AbstractThis paper examines the optimal capital structure of a firm that delegates its financing decision of a risky project to a manager who is both risk averse and regret averse. Regret aversion is characterized by a utility function that includes disutility from having chosen ex-post suboptimal alternatives. We show that the manager optimally opts for zero leverage if risk aversion is relatively more important than regret aversion in representing the manager's preferences. Otherwise, the optimal capital structure is interior such that the optimal amount of debt increases when regret aversion becomes increasingly more important than risk aversion in representing the manager's preferences. We further show that the firm's market leverage ratio is inversely related to the project's profitability and to the firm's market-to-book ratio. These comparative static results are consistent with the robust evidence documented in the literature on empirical capital structure.
Persistent Identifierhttp://hdl.handle.net/10722/208297
ISSN
2015 Impact Factor: 0.48
2015 SCImago Journal Rankings: 0.405

 

DC FieldValueLanguage
dc.contributor.authorWong, KPen_US
dc.date.accessioned2015-02-23T08:20:03Z-
dc.date.available2015-02-23T08:20:03Z-
dc.date.issued2015en_US
dc.identifier.citationFinance Research Letters, 2015, v. 12, p. 48-57en_US
dc.identifier.issn1544-6123-
dc.identifier.urihttp://hdl.handle.net/10722/208297-
dc.description.abstractThis paper examines the optimal capital structure of a firm that delegates its financing decision of a risky project to a manager who is both risk averse and regret averse. Regret aversion is characterized by a utility function that includes disutility from having chosen ex-post suboptimal alternatives. We show that the manager optimally opts for zero leverage if risk aversion is relatively more important than regret aversion in representing the manager's preferences. Otherwise, the optimal capital structure is interior such that the optimal amount of debt increases when regret aversion becomes increasingly more important than risk aversion in representing the manager's preferences. We further show that the firm's market leverage ratio is inversely related to the project's profitability and to the firm's market-to-book ratio. These comparative static results are consistent with the robust evidence documented in the literature on empirical capital structure.en_US
dc.languageengen_US
dc.publisherElsevier. The Journal's web site is located at http://www.elsevier.com/locate/frlen_US
dc.relation.ispartofFinance Research Lettersen_US
dc.rightsNOTICE: this is the author’s version of a work that was accepted for publication in [Finance Research Letters]. Changes resulting from the publishing process, such as peer review, editing, corrections, structural formatting, and other quality control mechanisms may not be reflected in this document. Changes may have been made to this work since it was submitted for publication. A definitive version was subsequently published in PUBLICATION, [VOL 12, (2015)] DOI 10.1016/j.frl.2014.12.001en_US
dc.rightsCreative Commons: Attribution 3.0 Hong Kong License-
dc.titleA Regret Theory of Capital Structureen_US
dc.typeArticleen_US
dc.identifier.emailWong, KP: kpwong@econ.hku.hken_US
dc.identifier.authorityWong, KP=rp01112en_US
dc.description.naturepostprint-
dc.identifier.doi10.1016/j.frl.2014.12.001en_US
dc.identifier.hkuros242429en_US
dc.identifier.volume12en_US
dc.identifier.spage48en_US
dc.identifier.epage57en_US

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