I examine how aversion to asset-growth ambiguity affects capital structure decision.I propose a novel good deal-free (quasi-no-arbitrage) multiple-prior approach to model ambiguity over asset growth.I apply this new ambiguity model to revisiting capital structure trade-off theory.I find ambiguity aversion makes lenders hold a worst-case belief about asset growth.This key feature creates the relevance of ambiguity preference in explaining low leverage puzzle,leverage inertia puzzle,credit spread puzzle,and theoretical overstatements on asset-substitution agency conflicts and corporate hedging.The magnitude of ambiguity-aversion effects on capital structure decision is assessed using a large cross section of S&P 500 firms.
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