Does Risk Management A ect Firm Value? Evidence from a Natural Experiment∗

We study how hedging a ects rm value and real investment activity. We obtain exogenous variation in access to e ective hedging instruments from the unexpected breakdown in the correlation of Canadian oil prices with the benchmark oil price used in NYMEX hedging contracts. Using a di erence-in-di erences framework we compare Canadian oil producers to their U.S. counterparts, who maintain access to e ective hedging instruments. We nd that a ected rms signi cantly reduce their capital expenditures. We further show that reduced investment and lower rm valuation is driven by rms with more leverage, as predicted by theory. Overall, our results provide evidence that hedging a ects rm value by alleviating the costs of nancial distress and the underinvestment problem. ∗We thank seminar participants at Boston College and Wharton, as well as Phil Strahan and René Stulz for their comments and Bruno Geremia (CFO of Birchcli Energy) and Peter Scott (CFO of Lightstream Resources) for their insights on hedging practices among Canadian energy rms. We also thank Max Chou, Sam Gervase, Saeid Hoseinzade, and Xuechuan Ni for their research assistance. All remaining errors are our own. †The Wharton School, University of Pennsylvania, 3620 Locust Walk Suite, 2400, Philadelphia, PA 19104. Email: [email protected] ‡Carroll School of Management, Boston College, 140 Commonwealth Ave., Chestnut Hill, MA 02467. Email: [email protected]