Social capital and equity prices

Abstract

Social capital refers to “networks, norms, and trust that facilitate action and cooperation for mutual benefit” (Putnam, 1995). We propose a novel firm-level time-varying social capital measure based on firms’ 10-K filings that captures the firm’s operational exposure to social capital and examine its impact on equity prices. This measure is positively and significantly correlated with future returns, above and beyond the effects of governance indices. A zero-cost portfolio that is long in high and short in low social-capital firms earns a risk-adjusted annual return of 6.41%, with a T-statistic over 3. Investors do not fully incorporate the benefits of a firm’s exposure to social capital in equity prices. Firms with greater exposure to high social capital regions are more likely to have positive earnings surprises and are associated with higher post-earnings announcement drifts. Our results are robust to using newer measures of social capital (Chetty et al., 2022a,b). Valuation Insight: The quantity of social capital a firm is connected to significantly affects its value. Using a measure of social capital obtained from textual analysis of 10-K filings, the paper finds that the annual stock returns of the 20% of firms with the highest social capital measure are 6.4% higher than those of the 20% of firms with the lowest social capital measure. Investors do not fully appreciate the importance of social capital for value: firm more exposed to regions with high social capital have higher positive earning surprises on average and exhibit higher post-earnings announcement drift.