Market Reactions to Tangible and Intangible Information Revisited
University of Chicago - Booth School of Business
Juhani T. Linnainmaa
University of Chicago - Booth School of Business; National Bureau of Economic Research (NBER)
July 1, 2014
Chicago Booth Research Paper No. 13-82
Fama-Miller Working Paper
Daniel and Titman (2006) propose that the value premium is due to investors overreacting to in- tangible information. They therefore decompose five-year changes in firms' book-to-market ratios into stock returns and a residual that is a proxy for tangible information based on accounting performance ("book returns"). Consistent with investors overreacting to intangible information, they find that only stock returns orthogonal to book returns reverse. We show that their decomposition creates a book return polluted by past book-to-market ratios, stock returns, net issuances, and dividends. Empirically, two-fifths of the variation in book returns is due to these factors. In addition, the Daniel and Titman (2006) result is sensitive to methodological choices. When we use the change in the book value of equity as a proxy for tangible information, only the tangible component of stock returns reverses. Moreover, current book-to-market subsumes the intangible return's power to predict the cross-section of average returns, which casts doubt on the argument that book-to-market forecasts returns because it is a good proxy for the intangible return.
Number of Pages in PDF File: 29
Date posted: November 24, 2013 ; Last revised: August 30, 2014
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