Baker and Wurgler (2002) define a new theory of capital structure. In this theory capital structure evolves as the cumulative outcome of past attempts to time the equity market. Baker and Wurgler extend market timing theory to long-term capital structure, but their results do not clearly distinguish between the two versions of market timing: perceived mispricing and adverse selection. The main purpose of this dissertation is to empirically identify the relative importance of these two explanations. First, I retest Baker and Wurgler's theory by using insider trading as an alternative to market-to-book ratio to measure equity market timing. I also formally test the adverse selection model of the equity market timing: first by using post-issuance performance, and then by using three measures of adverse selection. The first two measures use estimates of adverse information costs based on the bid and ask prices, and the third measure is based on the close-to-offer returns. Based on received theory, a dynamic adverse selection model implies that higher adverse information costs lead to higher leverage. On the other hand, a naïve adverse selection model implies that negative inside information leads to lower leverage. The results are consistent with the equity market timing theory of …

This study is an empirical examination of a new theory that links dividends to institutional ownership in a framework of both information signaling and agency costs. Under this theory put forth by Allen, Bernardo and Welch in 2000, dividends are paid out to attract tax-favored institutional investors, thereby signaling good firm quality and/or more efficient monitoring. This is based on the premise that institutions are considered sophisticated investors with superior ability and stronger incentive to be informed about the firm quality compared to retail investors. On the agency level, institutional investors display monitoring capabilities, and can detect and correct managerial pitfalls, thus their presence serves as an assurance that the firm will remain well run. The study provides a comprehensive analysis of the implications of the theory by testing various aspects of the relationship between dividends and institutional holdings. Unlike the prevalent literature on this topic, I give specific attention to the different types of institutional investors and their incentives to invest in dividend paying stocks. Moreover, I analyze the signaling and the agency effects on the market reaction to dividend initiations within the framework proposed by the theory. Finally, I test the smoothing effect institutions have on dividends by …