Stock Price Anchoring

We provide evidence that stock prices are positively correlated with firm value in a cross-sectional framework. This is surprising as company managers can alter the stock price at their own discretion by changing the number of shares outstanding. Even more puzzling is that firms with a high stock price at the end of the year have lower returns in the subsequent year. After controlling for common risk factors, this underperformance amounts to 4.56% per year. We argue that investors wrongly interpret easily available information such as the stock price as a piece of relevant information signalling firm quality. As a result, when judging firm value, investors “anchor” their valuation to the share price and place a higher valuation on high-priced firms.