In a large panel of US firms, we find that discounts for industrial
and global diversification significantly decrease in economic downturns,
suggesting a valuable hedging benefit of diversification. This
finding is robust to a wide variety of business cycle and economic
uncertainty variables and persists when we account for endogeneity
of industrial and global diversification. We further analyze the
channels through which diversification is more valuable in economic
downturns. We find that the value improvement is largely explained
by increases in investment and product market performance relative
to focused firms. There is no evidence that improved internal capital
market efficiency or access to external finance contribute to the
hedging value of diversification.
