ABSTRACT We examine how stock market feedback affects corporate investment when responsible investors are active in the market. These investors experience disutility when the firm’s investment decisions are misaligned with their nonfinancial preferences. A manager chooses between two projects that are ex ante financially equivalent: a “green” one aligned with investor preferences and a “brown” one that is not (e.g., due to environmental or social concerns). The success of the project depends on matching the investment with the state of nature. Because responsible investors prefer to hold green firms, trading is more informative when the firm signals green, strengthening market feedback. Anticipating this, the manager may misreport a brown signal as green to attract responsible investors. However, such manipulation can deter investors from acquiring information and reduce the firm’s value. We show that this mechanism is robust to several alternative investor compositions. JEL Classifications: G14; G30; M41.

ABSTRACT We propose a measure of the valuation gap between debt and equity—debt‐equity spread (DES)—based on the difference between actual and equity‐implied credit spreads. DES predicts cross‐sectional stock and bond returns in opposite directions. This predictability is unique compared to existing mispricing measures and cannot be explained by exposures to various risk factors. High‐DES firms are more likely to issue equity and retire debt, and have more insider equity selling. These findings are consistent with DES capturing relative mispricing between debt and equity, and provide empirical support for the model of partially segmented markets in Greenwood, Hanson, and Liao (2018, Review of Financial Studies 31, 3307–3343).