Stock markets reward investment in innovation in long run

Companies that do invest in building their innovative capacity are rewarded over the long run by higher stock market returns and profits, say researchers including one of Indian-origin.

Previous research has found that the stock of companies with high rates of capital investment generally tend to "underperform" immediately following the investment, said Praveen Kumar, Professor at C.T. Bauer College of Business, University of Houston.

But that research did not distinguished between investment in innovative capacity and traditional capital investment to determine if stock market response differs between the two.

"If innovative and traditional investment companies are pooled together, we tend to observe that stock markets punish higher investments, at least in the short run," Kumar noted.

By separating the investments, large research and development firms, with greater financial resources to ultimately develop innovations, are rewarded over time by the stock market, generating higher profits, leading to shareholders gaining more in the longer run.

"This is important information for managers of these companies since it encourages them to invest in an innovative capacity, which would lead to development of new products and technologies, which is helpful for the entire economy," Kumar added.

Kumar and Dongmei Li of the University of South Carolina analysed the long run financial market and profitability implications of investments by companies for the study published in the Journal of Finance.

--IANS

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