Historical market-to-book in a partial adjustment model of leverage

Historical market-to-book has been shown to explain current leverage. Prior studies attribute the evidence to market timing. This study shows that with the presence of time-varying targets and adjustment costs, historical market-to-book has a significant impact on leverage even when firms do not time the market. The historical values of alternative market timing proxies, such as insider sales and the market sentiment index, are shown to have no effects on leverage while the historical values of alternative growth-option proxies do have effects. Overall, the evidence is largely consistent with a partial adjustment model of leverage.