Do managers learn from the stock market? This question has recently attracted much attention among finance researchers. Indeed, understanding whether and how information flows from the stock market to companies turns out to be of paramount importance to properly appraise the impact of financial markets on the real economy. The mechanism underlying such learning from managers roots in the long-standing idea that prices aggregate diverse pieces of information via the trading activity of a myriad of different investors. As a result, market prices may embed some specific information that managers do not have yet. This new information, in turn, can guide them towards a more efficient allocation of corporate resources and hence may contribute to increase firm value.
Recent research provides ample empirical support for this idea. In particular, several studies document that managers learn information from their stock price and use this information when they decide on corporate investment. Prominent examples are Durnev, Morck and Yeung (2004), Luo (2005), Chen, Goldstein and Jiang (2007), or Bakke and Whited (2010). This line of research offers important insights on the multifaceted linkages between stock prices and managerial decisions. Yet, the literature has so far focused exclusively on the effects of managerial learning on corporate investment. However, to the extent that prices really transmit new information to managers, this information should also affect other decisions that managers have to make.
This paper argues, and provides strong evidence, that decisions on corporate cash savings depend on managers learning from the stock market. As a matter of fact, both theory and economic intuition predict that managers can glean a variety of useful information from the stock price. Market prices may for example contain specific information about future investment and financing opportunities (e.g. in the models of Dow and Gorton (1997) or Subrahmanyam and Titman (1999)). Also, prices could vehicle information about strategic issues such as future competitive changes or the evolution of firms’ relationships with their different stakeholders. Arguably, all these potential sources of information are directly tied to firms’ decisions to save cash.
Indeed, according to the growing literature on corporate cash holdings, firms systematically hoard cash to secure the financing of future investment (e.g. Almeida, Campello, and Almeida (2004) or Acharya, Almeida, and Campello (2007)). Hence, we expect firms’ savings behavior to be affected by the information that prices transmit about the value of their growth prospects. From a different perspective, existing research reveals that firms also use cash as a strategic weapon in the product market (e.g. Frésard (2010)) or in their negotiations with workers or suppliers (e.g. Klasa, Maxwell, and Ortiz-Molina (2009)). Hence, to the extent that prices inform managers about future strategic issues, cash savings should be determined by the informational content of prices.
