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Cross-market timing in security issuance

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This paper analyzes the interaction between firms' debt and equity market timing decisions in response to equity misvaluation, as well as how these timing decisions vary across firms with different external funding needs. We use price pressure resulting from mutual fund flow-induced trading to identify equity misvaluation. We find that when equity is overvalued, the least financially constrained firms issue equity and use the proceeds to retire debt, acting as pure arbitrageurs. In contrast, firms that are most financially constrained issue both overpriced equity and debt to increase investment. Our finding that equity market timing does not vary significantly with external funding needs, while debt market timing does, implies that the financing channel of equity mispricing impacting firm investment works primarily through debt issues.

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