Baker and Wurgler (2000) showed that when equity dominates the corporate financing mix, poor market returns follow: Over 1928–1997, the equity share of new issues was among the strongest negative predictors of next-year returns, stronger than dividend yield or book-to-market…
So to further isolate equity issuance’s predictive ability, we decomposed aggregate share issuance by sector.
Biotech/Pharma, Materials, and Industrials are all in the third tercile. Issuance historically hasn’t been very informative for Materials, but the historical precedent bodes poorly for Biotech and Industrials. On the flip side, Communication Services and Consumer Staples are both in the lowest tercile, and historically that has meant significantly higher returns, especially for Communication Services.
This makes perfect sense to me, as the issuance of new shares against a constant(ish) state of demand naturally means that the demand is spread over a wider base.
I have wondered the same thing about shares that are locked up and then suddenly released: the Microsoft shares in Bill Gates’ wallet, or what will happen with Berkshire when those shares pass to the various foundations. Those they aren’t “new” shares, they are “new to the market” and have never been available; wouldn’t the same logic hold true?
When MSFT went public in 1986, Bill Gates still had a 45% share after the IPO. Had he held, like Oracle’s Larry Ellison, he’d be worth $1.7 Trillion today.
Gates sold his shares slowly over time and didn’t affect the market. Similarly when Buffett’s shares are distributed to the various foundations, I’m sure the foundations won’t be selling any more than the 5% or so of assets they give out in grants each year.
