Inside Information and the Own Company Stock Puzzle

Abstract

U.S. investors allocate 30-40% of their financial asset portfolio in the stock of the company stock they work for. Such a portfolio flies in the face of standard portfolio theory, which prescribes that an investor should hold less of a financial asset that is positively correlated with her undiversified labor income. Nevertheless, we propose a rational explanation that prescribes a long position in own company stock. Precisely because the own company stock is positively correlated with the investor’s labor income, any information the investor learns about her earnings is a partial information advantage in her own company stock. When confronted with a choice of what information to acquire, employees may choose to learn about their own firm. Learning lowers the employee’s risk of holding own-firm equity, which raises its risk-adjusted returns and makes a long position optimal. ∗Stijn Van Nieuwerburgh: svnieuwe@stern.nyu.edu, NYU Stern, Finance Department, 44 West 4th St., 9th floor, New York, NY 10012. Laura Veldkamp: lveldkam@stern.nyu.edu, NYU Stern, Economics Department, 44 West 4th St., 7th floor, New York, NY 10012. JEL classification: F30, G11, D82.

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Cite this paper

@inproceedings{Nieuwerburgh2005InsideIA, title={Inside Information and the Own Company Stock Puzzle}, author={Stijn van Nieuwerburgh and Laura Veldkamp SC-AM and Laura L. Veldkamp}, year={2005} }