Book-to-Market Ratio and Skewness of Stock Returns
University of California, Berkeley; China Academy of Financial Research (CAFR)
December 25, 2010
Stocks with low book-to-market ratio, also known as glamour stocks, are shown to have significant excess positive skewness in their return distributions compared with value stocks. The premium (discount) investors apply to glamour (value) stocks correlates significantly with the difference in return skewness. These findings suggest that the value/glamour-stock puzzle is partially explained by investor preference for positive skewness in stock returns. Such preference for skewness, which is consistent with investors having S-shaped utility-of-wealth functions, is observed in such consumer behaviors as lottery purchases and gambling. The results also indicate that the conservative bias in US GAAP, which has been widely criticized for tarnishing the representational faithfulness of financial reports, can provide investors with useful information to assess firm upside potential relative to downside risk.
Keywords: Book-to-market ratio, Skewness, Accounting conservatism, Growth, Capital asset pricing
JEL Classification: G11, G12, M41working papers series
Date posted: January 5, 2011
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