Capital Market Sentiment’s Effects on a Firms Risk Appetite: A Case Study of Yahoo

Abstract

Capital market sentiment about a firm influences countless things, from how an investor interprets news about a company to how a government interacts with said firm. Traditional thought and related studies have focused on the suggestion that a firm’s business strategy determines their risk appetite, and that risk appetite generates a sentiment about the company in the capital markets which is feedback from which business strategy can adapt to. The chaotic expectations and extreme valuations given to internet companies in the late 20th century are often referred to in hindsight as a catalyst for the dot-com bubble burst in 2000. This exploratory study takes a look at one of the tech titans of that time, Yahoo! and attempts to identify whether capital market sentiment was indeed a product of a firm’s risk appetite, or whether capital market sentiment had taken the initiative and had been a driver of a firm’s risk appetite. By forming a proxy for capital market sentiment with an analyst revision component and an investor expectation component, this study provides a possible platform from which to test its effect or how it was affected by a risk appetite proxy, formed with an organic growth component and an acquisition risk component. Though the empirical results were unable to conclusively prove a statistically valid link between the definitions of capital market sentiment and a firm’s risk appetite, this study has brought up an interesting negative correlation between the two proxies, as well as show that investor sentiment was more of a driver of a firms risk appetite rather than the other way around. Analysis of the proxies has shown that the capital market sentiment proxy seems to be a valid measure, and that the organic growth component is appropriate. Further research would have to deal with refinement of the acquisition risk component as well as take a more detailed look as to why a negative link seems to exist between two proxies that are assumed to have a positive relationship.

Capital market sentiment about a firm influences countless things, from how an investor interprets news about a company to how a government interacts with said firm. Traditional thought and related studies have focused on the suggestion that a firm’s business strategy determines their risk appetite, and that risk appetite generates a sentiment about the company in the capital markets which is feedback from which business strategy can adapt to. The chaotic expectations and extreme valuations given to internet companies in the late 20th century are often referred to in hindsight as a catalyst for the dot-com bubble burst in 2000. This exploratory study takes a look at one of the tech titans of that time, Yahoo! and attempts to identify whether capital market sentiment was indeed a product of a firm’s risk appetite, or whether capital market sentiment had taken the initiative and had been a driver of a firm’s risk appetite. By forming a proxy for capital market sentiment with an analyst revision component and an investor expectation component, this study provides a possible platform from which to test its effect or how it was affected by a risk appetite proxy, formed with an organic growth component and an acquisition risk component. Though the empirical results were unable to conclusively prove a statistically valid link between the definitions of capital market sentiment and a firm’s risk appetite, this study has brought up an interesting negative correlation between the two proxies, as well as show that investor sentiment was more of a driver of a firms risk appetite rather than the other way around. Analysis of the proxies has shown that the capital market sentiment proxy seems to be a valid measure, and that the organic growth component is appropriate. Further research would have to deal with refinement of the acquisition risk component as well as take a more detailed look as to why a negative link seems to exist between two proxies that are assumed to have a positive relationship.