Firm fundamentals, stochastic risk premiums, and the cross-section of expected returns

This thesis aims to understand the role of firm fundamentals in measuring the firm-level risk and expected returns in the cross-section. It contains three chapters and proceeds as follows. Chapter 1 presents the core research questions, outlines the key motivations, and summarizes the main results. Chapter 2 develops a novel theoretically derived approach towards estimating firm level expected stock returns. I show that the firm-level one-period-ahead expected stock return is a linear combination of book-to-market ratio, forward earnings yield, and a variable summarizing one-period-ahead value-relevant ‘other information’. This ‘other information’ can be inferred from the firm’s one-period-ahead earnings expectation and the current stock price. The empirical evidence shows that the expected return estimates exhibit meaningful associations with a wide range of firm characteristics and are significantly positively associated with future realized returns. Chapter 3 tests the cross-sectional associations of a set of firm fundamentals and stock returns against ‘beta’-based and ‘alpha’-based explanations jointly in a novel two-step testing framework. The new testing methodology builds on the intuition that, if a variable predicts stock returns due to its ability to proxy for firm betas, then its return predictive coefficients must vary consistently with rational expectations of the future realizations of corresponding risk factors. My test results suggest that the return predictive ability of many firm fundamentals is mostly consistent with ‘alpha’-based explanations. Chapter 4 summarizes the key contributions and results of the thesis

Financial Statement Comparability and Investor Responsiveness to Earnings News

This study investigates the role of financial statement comparability in the stock price sensitivity to firm-specific earnings news. Results suggest that information content of earnings is greater for firms with higher comparability, suggesting that comparability contributes to information usefulness for investors in equity valuation decisions. Further support indicates that comparability enhances usefulness through increased response to positive earnings surprises. This influence is pronounced for the earnings news of small firms, high volatility firms, growth/value firms, and firms with low return on assets, suggesting that comparability is more informative for more speculative stocks

Information content of insider trading in Germany - three empirical essays

This dissertation employs an empirical strategy to investigate the information content of insider trading. The analysis is based on the basic premise that insiders, while possessing private information, trade for many reasons and perform a variety of roles. By identifying information motivated trades (trades outside blackout periods) and examining their interest positive interaction to Corporate Social Responsibility (CSR), we show that legal insider trading contributes to market efficiency and fairness. Further, we find substantial abnormal returns (most in cases of purchases) that indicates valuable content of information in insider trades. MAR regulation though mitigates the informativeness of insider trading, the impact appears mostly for trades of firms with high level of litigation risk. In addition, the MAR effect on trades in alternative trading venues is weak. Last, in exploiting the predictability of aggregate insider trading, this work demonstrates that insider trades in aggregate deliver us a precise predictor for future market returns, at least three months before the market moves. The stock market price predictivity effect of aggregate insider trades is even higher when market transparency is stronger (in the period after MAR introduction). Following to the results of this work, insiders’ predictive ability becomes especially valuable during periods of significant market disruption such as during Covid-19 pandemic

The existence and behaviour of style anomalies in the global equity market : a univariate and multivariate analysis

Includes bibliographical references.Style anomalies comprise patterns and relationships found in the cross-section of stock returns data, which contradict the existing asset-pricing models. They have proven to be reasonably effective at explaining the return-genera ting process of ordinary shares, and have bro ad uses within modern finance. Empirically, style anomalies are found to have statistically significant rewards in individual markets and s mall market groupings, and are found to be significant at a sector level on a global scale, but have not been tested at a firm level on a global scale. The aim of this study is to explain the cross-section of returns of the 1468 largest global firms by market capitalisation. The worldwide study considers stocks from 53 different countries and 112 industries, and investigates the end of month return forecasting power of 44 different firm-specific attributes over the period August 2003 to August 2013. A univariate analysis is performed through a cross-sectional regression of the forward stock re turns on the firm-specific attributes in a similar method to Fama and MacBeth (1973). A ‘Full Data’ regression is also conducted, and results are presented both before and after a beta-adjustment for market risk. Following this, a multivariate analysis is conducted and a forward stepwise procedure is used to construct a multi-factor model. According to the results of this study, style anomalies exist and have a statistically significant reward at a firm level on a global scale. In a univariate setting there are 25 firm-specific style factors that have a significant return payoff at a 5% level of significance. The specific style groups containing significant firm-specific attributes are the Value, Growth, Momentum, Size and Liquidity, Leverage, and Emerging Market groupings. Ten attributes within these style groupings are found to be robust as they are highly significant both before and after beta-adjustment, and within both a univariate and multivariate setting, namely: EBITDA to Share Price (EBP), Emerging Market (EM), CAPEX to Sales (CXS), Sales to Total Assets (STA), Payout Ratio (PR), 24-month growth in Turnover by Volume (TVO24), Sales to Share Price (SP), 6-month growth in Earnings (E6), 1-month prior return (MOM1), and 3-month prior return (MOM3). This confirms that style effects exist both independently, in a univariate setting, and in a multi-factor model. The results of this study show that the Value and Emerging Market styles have the highest cumulative payoffs over the 10-year period, and the evidence of strong correlation between attributes within specific styles gives further validation to the traditional style groupings. The behaviour of, and relationships between the firm-specific style factors give great insight into the payoffs to investing in different style factors over time, and are key to the construction of a multi-factor model. The fifteen firm-specific style factors that are significant in a multivariate setting form the core of a multi-factor style model, which can potentially be used to explain a degree of unexplained returns, predict returns, give insight into global market behaviour, and price global assets for use within a global portfolio. These firm-specific attributes include: EBITDA to Share Price (EBP), Emerging Market (EM), CAPEX to Sales (CXS), Sales to Total Assets (STA), Payout Ratio (PR), 24-month growth in Turnover by Volume (TVO24), Sales to Share Price (SP), 6-month growth in Earnings (E6), 1-month prior return (MOM1), 3-month prior return (MOM3), the natural log of Enterprise Value (LNEV), Interest Cover before Tax (ITBT), 6-month prior return (MOM6), Price-to-Book value (PTB), and Cash Flow-to-Price (CFP)

A Test of Asset-Pricing Models at the Nairobi Securities Exchange

The Capital Asset Pricing Model (CAPM) has for a long time been used to explain the variations in expected return on stocks. However, the discoveries of market anomalies such as the Size, Book-to-Market and the Momentum effects, have greatly undermined CAPM’s ability to explain the expected returns on stocks. These anomalies prompted Fama and French (1993) and Carhart (1997) to propound asset pricing models that captured the effects of these anomalies. This study sought to test whether the CAPM, Fama and French (1993) Three-factor model and the Carhart’s (1997) Four-factor model can explain the returns of stocks traded in the NSE, from a portfolio perspective. The stock returns used in this study were those for the forty eight companies that trade under the MIMS in the NSE, during the period January 2009 to December 2013. Six portfolios that were sorted for size and Book-to-Market were created and used to test the CAPM as well as the Fama and French (1993) Three-factor model. Also, an additional six portfolios that were sorted for size and past performance were constructed to test the Carhart’s (1997) Four-factor model. The data was then analyzed using time series regression analysis and the estimated parameters were tested for significance. This study finds that even though the CAPM has been highly regarded for many years, when tested at the NSE from a portfolios perspective, the evidence in support of it is weak. This study finds that other significant factors exists that were not captured by CAPM, implying therefore that beta is not an adequate measure of risk. Also, as for the Fama and French (1993) Three-factor model, this study finds that it doesn’t quite capture all the factors influencing the returns of stocks traded at the NSE. However, this study finds that the Carhart’s (1997) Four-factor model performs better relative to the CAPM and the Fama and French (1993) Three-factor model, as it was observed to have a better explanatory power of the variation of expected returns of most of the sets of portfolios that it was tested on. The findings of this study will be of great significance to the finance academia and policy makers as it will assist in boosting their understanding of an asset-pricing model that can explain better, the variations in returns of stocks traded at the security exchange. Keywords: Asset pricing Models, NSE, Keny

An investigation of firm specific and macroeconomic variables and their influence on emerging market stock returns

Includes bibliographical references.This paper aims to expand on the growing area of asset pricing research in developed markets by extending such analyses to those nations considered to be emerging. Of late the accuracy of a previously established cornerstone of asset pricing theory, namely the Capital Asset Pricing Model (CAPM) has been questioned. The discovery of numerous firm related anomalies that have predictive power over the cross sectional variation of share returns in excess of that explained by established market proxy models has served to fuel interest and speculation as to the true robustness and exploitability of such influences. These firm specific influences have been termed 'style characteristics' . This study employed the use of the DataStream International Emerging Market Index for the extraction of all firm specific and return data. In addition to the considered 'style' characteristics this study explores the broader systematic effects associated with changes in key macroeconomic variables

Role of Cognitive Processes, Emotional Regulation, Attention, and Intrinsic Motives in explaining the underlying Mechanism and Dynamics of Value Premium: A Mispricing Perspective

Is the investor\u2019s reliance on cognitive processes and emotional regulation strategy predict preferences towards the selection of value versus growth stocks? Is the value premium vary across the level of investors\u2019 attention? Is the value premium dependent on mispricing signals manifested in the firms\u2019 intangibles-intensity? Investor\u2019s Intrinsic Motives and the Valence of Word-of-Mouth in Sequential Decision-Making

Hot and cold IPO markets : the case of the stock exchange of Mauritius

The aim of this study is to assess the characteristics of the hot and cold IPO markets on the Stock Exchange of Mauritius (SEM). The results show that the hot issues exhibit, on average, a greater degree of underpricing than the cold issues, although the hot issue phenomenon is not a significant driving force in explaining this short-run underpricing. The results are consistent with the predictions of the changing risk composition hypothesis in suggesting that firms going public during hot markets are on average relatively more risky. The findings also support the time adverse selection hypothesis in that the firms’ quality dispersion is statistically different between hot and cold markets. Finally, the study concludes that firms which go public during hot markets do not underperform those going public in cold markets over the longer term