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  • Collinearity & omitted variables

    Hi all,

    I am pretty new to Stata and as part of a research project, I want to analyse the impact of ESG ratings of M&A targets on the organisational performance of the post-merger entity (var:ROE), by controlling with variables such as total assets at the moment of the merger and the deal value.


    Since my dataset considers a temporality I followed what I thought was right by doing a Hausman test which led me to the following fixed-control effects model:

    . xtset deal_id YEAR

    . xtreg ROE TargetESG DealValueUSDMillions TotAssetsy0 i.YEAR, fe vce(robust)

    Nevertheless, when I enter the command the system omits variables because of collinearity (namely: TargetESG, DealValue & TotAssets). I tried to solve the issue online, but it seems conceptually problematic for me to drop something other than the control variables (Deal value or/and total assets). Even when I do, my dependent variable still gets cancelled by Stata.

    To see which variable is creating a collinearity issue I ran a pwcorr command and a VIF and none seems excessively correlated though:


    . pwcorr ROE TargetESG DealValueUSDMillions TotAssetsy0

    | ROE Target~G DealVa~s TotAss~0
    -------------+------------------------------------
    ROE | 1.0000
    TargetESG | -0.0078 1.0000
    DealValueU | 0.0793 -0.0432 1.0000
    TotAssetsy0 | -0.0030 0.0092 -0.0007 1.0000


    . reg ROE TargetESG i.YEAR, vce(robust)

    . estat vif

    Variable | VIF 1/VIF
    -------------+----------------------
    TargetESG | 1.00 0.999967
    YEAR |
    2 | 1.31 0.760534
    3 | 1.31 0.760553
    -------------+----------------------
    Mean VIF | 1.21

    Does it mean I should change the type of statistical analysis (online research has pointed towards ridge or lasso regression)? Or did I miss something when coding my variables/ writing the xtreg command (since I didn't expect return on equity (ROE) and ESG grades to be that correlated)?

    Please do not hesitate if you need more information!

    And thank you in advance to those who will help on that matter.

    Best,
    Last edited by Xavier Boboisson; 03 May 2023, 07:51.

  • #2
    Xavier:
    welcome to this forum.
    The main reason why the -fe- estimator wipes out variable is their being time-invariant.
    Kind regards,
    Carlo
    (Stata 19.0)

    Comment


    • #3
      Thank you for your response Carlo,

      Please forgive the potential naivety of my question but if I understand well since my dependent variable is the only one evolving in time contrarily to my IV and CVs. The -fe- estimator should be switched for a -re- or does it mean I should quit trying for an OLS regression and try lasso or ridge regression?

      Best regards,

      Comment


      • #4
        Xavier:
        you may want to test if the -re- specification is the way to go via the community-contributed module-xtoverid-.
        Kind regards,
        Carlo
        (Stata 19.0)

        Comment

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