Financial constraints and stock returns: Evidence from stock market in China

Can financial constraints affect stock return? And can financial constraints be a factor for asset pricing in China? There are many empirical results show that financial constraints have an implication of asset pricing from American market. This paper mainly studies the effect of financial constraints in China stock market. Similar to index of KZ, which measure the financial constraints and was constructed by Kaplan and Zingales, we also construct a LFC index using Chinese data to measure financial constraints, then first examine whether financial constraints factor have generally existed in China´s stock market. We then examine whether financial constraint can improve the interpretation of three-factor asset pricing model. We last examine whether financial constraint influence stock returns. The evidence in this paper points to financial constraints be an independent factor that affecting asset returns.