Investing in Good Governance

Posted by the Harvard Law School Forum on Corporate Governance & Financial Regulation, on
Wednesday, September 12, 2012
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Editor’s Note: Lucian Bebchuk is a Professor of Law, Economics, and Finance and Director of the Program on Corporate Governance at Harvard Law School. This post is based on an op-ed article by Professor Bebchuk published today in the New York Times DealBook, available here. The op-ed builds on a forthcoming article with Alma Cohen and Charles Wang, titled “Learning and the Disappearing Association Between Governance and Returns.”

The New York Times published today my column Investing in Good Governance. The column discusses a study by Alma Cohen, Charles Wang, and myself about the correlation between governance and returns. The study, Learning and the Disappearing Association between Governance and Returns, forthcoming in the Journal of Financial Economics, is available here.

Earlier research has shown that, during the 1990s, trading strategies based on the Governance Index (Gompers, Ishii, and Metrick (2003)) and the Entrenchment Index (Bebchuk, Cohen, and Ferrell (2009)) would have produced abnormally high returns in the 1990s. Our study shows that the correlation between governance and stock returns in the 1990s did not subsequently persist. The study also provides evidence that both the correlation in the 1990s and its subsequent disappearance were due to market participants’ gradually learning to appreciate the difference between firms scoring well and poorly on the governance indices. Finally, the study establishes that, although the governance indexes could no longer generate abnormal returns in the 2000s, their negative association with operating performance and firm value persists. After discussing these findings, the DealBook column comments on whether there are any ways left for investors to make money from governance.

The DealBook column is available here.

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2 Comments

  1. James McRitchie
    Posted Wednesday, September 12, 2012 at 4:53 pm | Permalink

    I’m confident we will once again see positive returns as new measures of risk and new proposals granting proxy access are developed and passed. We may have picked some of the low hanging fruit but there are corporate governance orchards aplenty.

  2. Rosana H. Ortega
    Posted Tuesday, September 18, 2012 at 7:35 pm | Permalink

    Good governance correlating with higher stock prices in the 1990’s. A simple and seemingly intuitive notion that would have beaten the market back in the day! Interesting that we now have to find other angles outside of the box that the public overlooks. What’s not so obvious about APPLE? Good read, great study!

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