Investor protection and stock performance: theoretical mechanisms and global empirical evidence

Abstract:
Purpose
Our study aims to provide insights into the potential effect of investor protection on stock performance in terms of stock returns and volatility.

Design/methodology/approach
Based on a sample of 38,916 firms across 39 countries for the period from 2010 to 2019, the Antidirector Right Index (i.e. ADRI) – a proxy for investor protection that rates the degree of legal protection offered to minority shareholders from insiders’ expropriation – is regressed on the two stock performance measures, including stock returns and volatility.

Findings
This paper demonstrates that a higher level of investor protection minimizes stock return fluctuations and lowers the return rate. Besides, this negative association is less pronounced for firms located in countries with better institutional environment and for firms with better information environment.

Research limitations/implications
The outcomes imply that greater investor rights protection prevents managers and controlling stockholders from covering up bad company performance, thus reducing the problems of information asymmetry and expropriation. Firms in well-protected environment are more likely to focus on stability, long-term growth and efficient capital allocation rather than taking risks. It enriches the agency theory by implying that less agency conflict results in less risk-taking but might also diminish the expected returns as a trade-off.

Originality/value
The study expands agency theory by highlighting a risk–return trade-off induced by stronger investor protection. Besides, it contributes to institutional theory by showing how institutional and informational environment condition the effects of investor protection on stock performance.