- We document the existence of a debt anomaly that is in addition to the asset growth anomaly: for a given asset growth rate, firms that issue more debt, as well as firms that retire more debt, have lower stock returns in the 12 months starting 6 months after the calendar year of asset growth. Exploring the reasons for debt issuance, we find that managers of firms for which analyst expectations are more over-optimistic, which suffer from declining investment profitability, and whose earnings-price ratios are relatively high are inclined to rely more heavily on debt financing. On the other hand, firms that retire more debt for a given asset growth rate tend to have improving profitability but to be over-priced. We also find that the financing decision is influenced by the prior debt ratio, the asset growth rate, profitability, and CEO pay sensitivity. We interpret our results in terms of managerial incentives, signaling, and market timing.
