Abstract

This article provides a new link between firm location and stock returns. We show that the industrial composition of a local economy, in particular, how cyclical its industries are, affects firm risk. We propose a metric of this cyclicality, labeled “local beta”, and demonstrate that local factor prices such as wages and real estate prices are more sensitive to aggregate shocks in areas with high local beta. While procyclical wages provide a natural hedge against aggregate shocks and lead to lower firm risk, procyclical prices of real estate, which is part of firm’s assets, should increase firm risk. We confirm that firms located in higher beta areas have lower industry-adjusted returns and conditional betas, and show that the effect is stronger among firms with low real estate holdings. A production-based equilibrium model explains these empirical findings. JEL classification: D24, G12, J21, R30

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