Financial Policy and Market Expectations

Abstract

If financial managers do indeed seek to maximize shareholder wealth, it is incumbent on them to know something of the effects of financial decisions on investor expectations. This article seeks to provide insight into how financial policy affects shareholder expectations, and presents some evidence regarding the relative importance of decisions concerning liquidity, investment, and financing. The first section of this article contains a brief discussion of previous research and introduces the capital asset pricing model-the model that facilitates explicit study of expectations. An intuitive explanation of why the financial, marketing, and production decisions of the firm affect investor expectations follows. Then a market expectation/financial decision model is formulated and tested using multiple regression analysis. A summary of results and implications concludes the article.