The market timing hypothesis was first introduced by Wurgler and Baker in the year of 2004. It states that firms look for the cheaper type of financing regardless of their current levels of internal resources, debt and equity. This theory has been suggested as an alternative to the widely known theories like trade off theory and pecking order theory and tries to explain the incentives for a financial manager to find optimum capital structure.
The market timing hypothesis says that the first order determinant of the capital structure of a corporation represents the proportional mis-pricing of the debt and equity portions when the firm requires funds for investments. In other words firms usually do not care whether the financing is done with equity or debt. The firms and corporations select the most suitable form of financing at the time of investment.
Theory itself does not give any reason why mis-pricing exists but assumes that the mis-pricing exists in the market. The theory also gives an account on the firm's behavior with the assumption that the firms are able in detecting the mis-pricing more efficiently than the markets.
The empirical evidence, whether this hypothesis holds in the real world is mixed. The market timing typically refers to the decision of the buying or selling of the financial assets such as stocks while trying to predict the price movements of the future market. The prediction is usually based the market outlook or on the economic conditions coming out from the fundamental or technical analysis of the market.
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