Aggregation, Capital Heterogeneity, and the Investment CAPM

A detailed treatment of aggregation and capital heterogeneity substantially improves the performance of the investment CAPM. Firm-level predicted returns are constructed from firm-level accounting variables and aggregated to the portfolio level to match with portfolio-level stock returns. Working capital forms a separate productive input besides physical capital. The model fits well the value, momentum, investment, and profitability premiums simultaneously and partially explains positive stock-fundamental return correlations, the procyclical and short-term dynamics of the momentum and profitability premiums, as well as the countercyclical and long-term dynamics of the value and investment premiums. However, the model falls short in explaining momentum crashes.

Keywords: The Investment CAPM, GMM, Aggregation, Working Capital, Value, Momentum, Investment, Profitability, Joint Estimation

JEL Classification: D21, D92, E22, E44, G12, G14, G31, G32, G34

Suggested Citation: Suggested Citation

S. Gonçalves, Andrei and Xue, Chen and Zhang, Lu, Aggregation, Capital Heterogeneity, and the Investment CAPM (June 2019). Review of Financial Studies, Forthcoming, Available at SSRN: https://ssrn.com/abstract=3403875 or http://dx.doi.org/10.2139/ssrn.3403875