Two essays on the study of capital structure in Chinese stock market

Abstract

This thesis contains two essays on the study of capital structure in Chinese stock market. The first essay tries to prove the validity of the newly-built market timing theory in Chinese stock market. ‘Market timing’ refers the practice to issue equity at high price and to repurchase at low price. The relation between market timing idea and capital structure is that: capital structure is the cumulative outcome of past attempts to time the equity market. Our empirical findings are best described by the market timing theory, rather than the long existing trade-off theory and pecking order theory, indicating a partial triumph of market timing theory in the competing with other two theories. In the second essay, we try to use the standard factor selection and factor prediction process to test the validity of the trade-off theory, the pecking order theory and the market timing theory in Chinese market. To be more specific, a series of 29 factors are included in the initial criterion. We find that out of the 29 candidates, the most possibly reliable factors are: profitability (- effect on leverage), market timing practice (-), dividend paying (-), dividend scaled by book equity (+), dividend scaled by market equity (+), firm size (+), collateral value (-), and depreciation (-). Our empirical findings indicate that no single theory can fully determine the capital structure decision in Chinese stock market. However, the importance of market timing theory is largely underestimated in the literature. The effect of market timing theory is as good as, if not better than, the recognized tradeoff theory and pecking order theory.