Stock price-drops were milder among companies with more cash, less debt, and larger profits; those with less exposure to COVID-19 through global supply chains and customer locations; and those with less entrenched executives. Firms engaged in corporate social responsibility activities also saw significantly smaller drops.
When the spread of the coronavirus triggered an abrupt global freeze on economic activity, some companies’ stocks suffered much more than others.
A new working paper co-authored by Berkeley Haas Prof. Ross Levine is the first to identify key factors that caused companies to be hit hardest, as well as which characteristics seemed to give firms more “immunity” to the pandemic-induced market downturn.
“While the traits of firms were common knowledge, how the market would price them once a pandemic hit was not known,” Levine says. “The market response to the pandemic helps determine which theories about corporate resilience actually hold up in practice.”
Levine and his co-authors analyzed data on 6,000 companies across 56 countries as the coronavirus spread around the globe between January 2 and March 27 this year. Perhaps not surprisingly, stock prices of companies with higher debt and smaller profits dropped more than those with more cash on hand. Companies with higher exposure to the virus—either because of their dependence on supply chains or customers in countries with more confirmed COVID-19 cases—also took larger hits than those with less exposure.
Some types of ownership were also associated with larger price drops. The researchers found that greater ownership by hedge funds drove down stock prices, perhaps because the funds’ dependence on algorithmic trading and leveraged trading makes them more sensitive to price changes, triggering rapid sell-offs. Stocks owned by hedge funds fell by 10% more over two months compared to those without hedge fund ownership, Levine and colleagues estimated.
Meanwhile, the presence of large nonfinancial corporate owners seemed to provide a ballast against the pandemic’s pressure on stock prices, the researchers found.
“One explanation is that when owners have long-run strategic interests in and commitments to the firm, such as a corporate owner, markets price these characteristics positively when evaluating the impact of COVID-19 cases,” they wrote.
The markets penalized companies with more entrenched CEOs, suggesting an investor-preference for flexibility, including for potential leadership changes or mergers and acquisitions, during this turbulent period.
Which other factors helped buffer the downturn? Companies that had invested more in corporate social responsibility activities before the pandemic “enjoyed much better stock price performance in response to the pandemic.” Stocks at companies with high CSR scores—as measured by the corporation’s commitment to creating safe, healthy workplaces, engaging in ethical business practices, providing enduring, reliable services to customers, and employing environmentally friendly and sustainable practices—dropped an estimated 19% less than those with low scores.
“These results are consistent with the view that investments in corporate social responsibility build trust with stakeholders, so that workers, suppliers, customers, and other stakeholders are more willing to make adjustments to support the business in response to adverse shocks,” the researchers wrote.
Levine wrote the paper with Wenzhi Ding of the University of Hong Kong along with Chen Lin, and Wensi Xie of the Chinese University of Hong Kong.
The paper has received coverage in The Economist and Institutional Investor.