Lumpy Investment and Equity Return

Using a parsimonious model featuring lumpy investment, we derive a sufficient statistic to measure the magnitude of capital adjustment friction among a cohort of identical firms. When we implement this measurement at the industry level using Compustat data, our findings show that firms operating in industries with high adjustment friction yield an average annualized return that is 6.8% higher than their counterparts in low friction sectors. To rationalize the augmented risk exposure inherent in high adjustment friction industries, we introduce a quantitative investment-based model set in a broader context. The model reveals that the investment's extensive margin risk is the primary driver of the return difference. Furthermore, we assess the robustness of our derived sufficient statistic within this quantitative framework.