The Underreaction Hypothesis and the New Issue Puzzle: Evidence from Japan

This paper investigates the long-term performance of Japanese firms issuing convertible debt or equity. We find that these firms perform poorly even though the stock-price reaction to convertible debt and equity issue announcements is not significantly negative for Japanese firms and Japanese firms do not issue equity or convertible debt following strong positive abnormal returns. Whereas in the U.S. underperformance appears to be concentrated in the smaller firms and in the firms with a high market-to-book ratio, this is not the case in Japan. The underperformance of Japanese issuing firms cannot be understood in terms of the underreaction hypothesis that some have advanced as an explanation for the poor returns of U.S. issuing firms.