The objective of this study is to investigate the crosssection of stock returns in the. However, since that time, hundreds of papers have tried to explain the crosssection of expected returns. Papers are invited for submission on this broad theme, including. The crosssection of expected stock returns eugene f. Market frictions, price delay, and the crosssection of. Low r square in the cross section of expected returns. Forecast dispersion and the crosssection of expected returns timothy c. Pdf this paper explores the ability of the capital asset pricing model. Crash sensitivity and the cross section of expected stock returns volume 53 issue 3 fousseni chabiyo, stefan ruenzi, florian weigert. In addition, we find that stocks with high idiosyncratic volatility relative to the fama and french 1993 model have abysmally low. Hundreds of papers and hundreds of factors attempt to explain the crosssection of expected returns.
Moreover, the omk portfolio is uncorrelated with other risk factors such as the market portfolio, size, value or momentum. What are the key factors explaining crosssectional variation in expected returns. If aggregate volatility is a risk factor that is orthogonal to existing risk factors, the sensitivity of stocks. Profiles files of balance sheet data, use a firms market equity and book value of. Outofsample forecasts from fm regressions provide a simple, yet surprisingly effective, way to form a composite trading strategy going long highexpectedreturn stocks. Ep is likely to be higher prices are lower relative to earnings for stocks with higher risks and expected returns, whatever the unnamed sources of risk. Hence, both shareholders and key talent have a claim to its cash ows. Seasonality in the crosssection of stock returns steven l. G12, g abstract we examine the pricing of aggregate volatility risk in. Empirically, historical tail betas help predict the future performance of stocks in extreme market downturns. Hundreds of papers and factors attempt to explain the crosssection of expected returns. On the crosssectional relation between expected returns. Ball 1978 argues that ep is a catchall proxy for unnamed factors in expected returns. The role of investor attention and risk preferences.
Ross school of business university of michigan shrihari santosh booth school of business university of chicago ross school of business working paper working paper no. Linnainmaa3,4 and valeri nikolaev 1university of chicago booth school of business, united states. Conversely, if the index is not efficient, the ex ante crosssectional relation does not hold exactly and other variables can have. Harvey, yan liu, and heqing zhu, and it is a startler though perhaps not a surprise. View andthecrosssectionofexpectedreturns from statistics 90x at hec paris. There are several advantages of using a crosssection of returns on stocks, rather than a crosssection of options on the market, to estimate the price of risk of aggregate volatility. Organization capital and the crosssection of expected returns andrea l. Whatever the underlying economic causes, our main result is straightfor ward. So intuitively, if you study the cross section of stock returns.
School of accounting and finance, and center for advanced studies in finance, university of waterloo, waterloo, canada on n2l 3g1 article info abstract article history. The efficiency of the market portfolio implies that a expected returns on. But the true crosssectional expected returnbeta relation is exact when the index is efficient, so no variable other than beta can explain any part of the true crosssection of expected returns. However, since that time, hundreds of papers have tried to explain the cross. We capture the crash sensitivity of stocks by their lower tail dependence ltd with the market based on copulas. Received 20 may 2008 received in revised 6 october 2008 accepted 14 january 2009. Parker princeton university and national bureau of economic research christian julliard princeton university this paper evaluates the central insight of the consumption capital asset pricing model that an assets expected return is determined by its equilibrium risk to. We examine the pricing of aggregate volatility risk in the crosssection of stock returns. Crash sensitivity and the crosssection of expected stock. Value at risk, crosssectional returns and the role of. Linking crosssectional and aggregate expected returns.
First, we crosssectionally estimate a price of risk for aggregate market volatility. Which characteristics provide incremental information for expected returns. The cross section of cashflow volatility and expected. The crosssection of volatility and expected returns. I am grateful to christopher malloy and andrew jackson for thoughtful comments and suggestions. Sellside illiquidity and the crosssection of expected. We first examine the different ability to forecast the crosssection of stock returns between the volatility and the var. This paper investigates the effect of investor sentiment on the crosssectional relationship between var and expected stock returns in the u.
My approach exploits the fact that the booktomarket ratio hereafter bm re ects both longterm expected returns and longterm expected pro tabilit. First, using the crosssection of returns allows us to create a useful hedging, or mimicking factor portfolio for aggregate volatility risk. Forecast dispersion and the crosssection of expected returns. If the volatility of the market return is a systematic risk.
We extend and enrich the finding of a recent paper by bali, cakici, and whitelaw. Crosssection of volatility and expected returns 275 formation periods causes less turnover. The empirical results show that the crosssection returns have a monotonic decreasing trend with the increasing of idiosyncratic volatility indicators, that confirms the puzzle exists on the. The resulting predictor can reliably describe the cross section of returns for at least ve years the lower bound of the typical useful life for corporate investments. Crash sensitivity and the cross section of expected stock. Ahern abstract industries that are more central in the network of intersectoral trade earn higher stock returns than industries that are less central. Market frictions, price delay, and the crosssection of expected returns abstract we parsimoniously characterize the severity of market frictions a.
Stocks as lotteries and the crosssection of expected. As a result, both shareholders and management have a claim on the. Given this extensive data mining, it does not make sense to use the usual criteria for establishing. We construct a stock measure of organization capital based on readily available. We provide a systematic study of how stochastic volatility is priced in the crosssection of expected stock returns. Given this extensive data mining, it does not make any economic or statistical sense to use the usual significance criteria for a newly discovered factor, e. Crash sensitivity and the crosssection of expected stock returns abstract this paper examines whether investors receive compensation for holding crashsensitive stocks. Earnings, retained earnings, and booktomarket in the. Given that so many papers have attempted to explain the same crosssection of expected returns, statistical inference should not be based on a single test perspective. Rather, this theory argues that competition among rational investors, who diversify to optimize the statistical properties of their portfolios, will lead to an equilibrium in which prices equal the rationally discounted value of expected cash flows, and in which the cross. Eisfeldt and dimitris papanikolaou abstract organization capital is a production factor that is embodied in the rms key talent and has an e ciency that is rm speci c. Eisfeldty ucla dimitris papanikolaouz northwestern university july 2011 abstract organization capital is a production factor that is embodied in the rms key talent and has an e ciency that is rm speci c.
Internet appendix to ex ante skewness and expected stock returns pdf file jennifer conrad, robert f. The crosssection of volatility and expected returns andrew ang, robert j. How average returns change across different stock or portfolios. Crosssection of expected returns and extreme returns. Using a stock measure of organization capital based on readily available ac.
Given this extensive data mining, it does not make any economic or statistical sense to. Hence, stocks with different sensitivities to innovations in aggregate volatility should have different expected returns. Earnings, retained earnings, and booktomarket in the cross section of expected returns ray bally 1, joseph gerakos2, juhani t. Available formats pdf please select a format to send. The crosssection of expected stock returns critical finance. Green the editor and to the referee for valuable expositional advice. We use all nonfinancial firms in the intersection of a the nyse, amex, and nasdaq return files from the center for research in security prices. Thus, the dispersion in expected returns arising from heterogeneity in the ratio of organization capital to assets. Linking crosssectional and aggregate expected returns serhiy kozak stephen m. Organization capital and the crosssection of expected returns. Pdf crosssectional determinants of expected returns we analyze the. Elephants and the crosssection of expected returns nora laurinaitytex christoph meinerdingy christian schlagz julian thimme this version. Stocks with relatively high low returns tend to have high low returns every year in the same calendar month.
Second, the ratio of booktomarket equity and size are found to be the most significant variables that can account for the crosssection of expected stock returns. Pdf crosssectional determinants of expected returns. The crosssection of expected stock returns 429 also possible, however, that beme just captures the unraveling regression toward the mean of irrational market whims about the prospects of firms. The crosssection of expected returns method applied on. Organization capital and the crosssection of expected returns, journal of finance, american finance. Consumption risk and the cross section of expected returns. After fama and frenchs study, many articles have addressed the relatively low explanatory power of beta in the crosssection of expected return. It is possible that this degradation is larger than they document. What is cross section in cross section of stock return. Consumption risk and the cross section of expected returns jonathan a.
The conditional capm and the crosssection of expected. Given that so many papers have attempted to explain the same cross section of expected returns, statistical inference should not be based on a single test perspective. Information quality and the crosssection of expected returns. Two easily measured variables, size me and booktomarket equity. Sellside illiquidity and the crosssection of expected stock returns abstract the demand for immediacy is likely to be stronger for sellers of securities than for buyers since investors are more likely to have a pressing need to raise cash than to exchange cash for securities. The first goal of this paper is to provide a systematic investigation of how the stochastic volatility of the market is priced in the crosssection of expected stock returns. Eisfeldt northwestern university dimitris papanikolaouy northwestern university november 2008 abstract this paper studies the unique risk characteristics of organization capital. The longer the formation window, the less these conditional estimates are relevant at time t, and the lower the spread in the preformation. Crosssection of volatility and expected returns 261 of assets that may have different exposures to aggregate volatility and hence different average returns. Thus, they conclude that beta is neither a single relevant risk measure nor a subset of. The conditional capm and the crosssectionof expected returns ravi jagannathan and zhenyuwang abstract most empirical studies of the static capm assume that betas remain constant over time and that the return on the valueweighted portfolio of all stocks is a proxy for the return on aggregate wealth. This paper studies the crosssectional properties of return fore casts derived from.
Consistent with theory, we find that stocks with high sensitivities to innovations in aggregate volatility have low average returns. Internet appendix for industryspecic human capital, idiosyncratic risk, and the crosssection of expected stock returns pdf file esther eiling. The crosssection of expected stock returns 3 available at the time i. Eisfeldty northwestern university dimitris papanikolaouz northwestern university april 2010 abstract this paper studies the unique risk characteristics of organization capital.