Stock Valuation and Learning About Profitability

Posted: 14 Oct 2003

See all articles by Lubos Pastor

Lubos Pastor

University of Chicago - Booth School of Business

Pietro Veronesi

University of Chicago - Booth School of Business; Centre for Economic Policy Research (CEPR); National Bureau of Economic Research (NBER)

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Abstract

We develop a simple approach to valuing stocks in the presence of learning about average profitability. The market-to-book ratio (M/B) increases with uncertainty about average profitability, especially for firms that pay no dividends. M/B is predicted to decline over a firm's lifetime due to learning, with steeper decline when the firm is young. These predictions are confirmed empirically. Data also support the predictions that younger stocks and stocks that pay no dividends have more volatile returns. Firm profitability has become more volatile recently, helping explain the puzzling increase in average idiosyncratic return volatility observed over the past few decades.

Suggested Citation

Pastor, Lubos and Veronesi, Pietro, Stock Valuation and Learning About Profitability. Available at SSRN: https://ssrn.com/abstract=447360

Lubos Pastor (Contact Author)

University of Chicago - Booth School of Business ( email )

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Pietro Veronesi

University of Chicago - Booth School of Business ( email )

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Chicago, IL 60637
United States
773-702-6348 (Phone)
773-702-0458 (Fax)

Centre for Economic Policy Research (CEPR)

London
United Kingdom

National Bureau of Economic Research (NBER)

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Cambridge, MA 02138
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