Discussion paper
DP20121 Learning about Discount Rates
Using data on firm managers’ beliefs about cashflow growth (g) and discount rates (k) in M&A transactions, we examine what they learn from target stock prices. Before correcting for endogeneity, both appear sensitive to prices---positively for g, negatively for k, and with equal magnitude---suggesting managers learn about both. However, using noise in prices as an instrument, only k reacts—with corrected estimates indicating that 89\% of managers’ information about k comes from prices. Therefore, stock markets provide insights into risk and the compensation it requires, but not cashflows, which managers already understand well. Cross-sectional tests reinforce this conclusion.
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