Balance Sheet Risk and Downside Sensitivity: How Financial Leverage and Corporate Liquidity Jointly Shape Stock Returns Across Market Downturns and Crises

Abstract

In Chapter 1, the study examines whether financial leverage amplifies equity price sensitivity during financial downturns and whether this amplification varies systematically across crisis types. The sample covers firm-month observations for public U.S. non-financial firms from 1980 to 2024. A fixed-effects model links down markets, lagged debt, and eleven crisis episodes. The tests track stock returns, excess returns, realized volatility changes, market betas, and Merton deltas. Debt increases return losses during financial crises and real recessions. Market crashes show the opposite pattern, with losses concentrated in low-debt growth firms. Debt does not raise volatility in all periods, but it magnifies volatility spikes in crisis down-months. Merton delta results show that financial crises reduce equity option value for high-debt firms. Other crisis types preserve that value. The evidence shows that debt matters most during crises that combine falling prices, weak balance sheets, and funding stress. In Chapter 2, corporate cash can support financial flexibility in bad times, but it can also raise agency concerns. This paper examines how lagged cash holdings affect three related downside outcomes, monthly excess returns, rolling market beta, and Merton delta, using CRSP and Compustat data from 1980 to 2024. The results show that cash is associated with more favorable excess returns in normal months, but that relation weakens in ordinary down markets. The crisis evidence is more heterogeneous. Financial crises, real-economic crises, and moderate crises provide the strongest support for a protective role of cash, especially in the return and beta results, whereas market-crash and severe crises point in the opposite direction. Delta shows a more cautious pattern and does not fully mirror the other two outcomes. Overall, the evidence suggests that the value of cash depends on both the type of downturn and the dimension of downside sensitivity under study.