This paper examines the impact of financial constraints on firm value and its observable effects on stock returns. The authors construct portfolios of firms based on observable characteristics related to financial constraints and test for common covariation in their stock returns. Using various measures of financial constraints, they find that financially constrained firms' stock returns move together over time, forming a "financial constraint" factor in stock returns. This factor is related to but not fully explained by other empirically identified factors in asset returns. Constrained firms exhibit significantly lower returns during the sample period (1968-1995), both unconditionally and within the context of empirical asset pricing models. The financial constraint factor helps explain returns following initial public offerings and dividend omissions. However, the hypothesis that the relative performance of financially constrained firms reflects monetary policy, credit conditions, or business cycles is only partially supported. The paper also explores the economic implications of the financial constraint factor, suggesting that it may reflect a genuine risk faced by investors that is not adequately captured by existing multifactor models.This paper examines the impact of financial constraints on firm value and its observable effects on stock returns. The authors construct portfolios of firms based on observable characteristics related to financial constraints and test for common covariation in their stock returns. Using various measures of financial constraints, they find that financially constrained firms' stock returns move together over time, forming a "financial constraint" factor in stock returns. This factor is related to but not fully explained by other empirically identified factors in asset returns. Constrained firms exhibit significantly lower returns during the sample period (1968-1995), both unconditionally and within the context of empirical asset pricing models. The financial constraint factor helps explain returns following initial public offerings and dividend omissions. However, the hypothesis that the relative performance of financially constrained firms reflects monetary policy, credit conditions, or business cycles is only partially supported. The paper also explores the economic implications of the financial constraint factor, suggesting that it may reflect a genuine risk faced by investors that is not adequately captured by existing multifactor models.