The Book-to-Price Effect in Stock Returns: Accounting for Leverage

42 Pages Posted: 11 Dec 2007

See all articles by Stephen H. Penman

Stephen H. Penman

Columbia Business School - Department of Accounting

Scott A. Richardson

AQR Capital Management, LLC; London Business School

A. Irem Tuna

London Business School

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Abstract

This paper lays out a decomposition of book-to-price (B/P) that derives from the accounting for book value and that articulates precisely how B/P absorbs leverage. The B/P ratio can be decomposed into an enterprise book-to-price (that pertains to operations and potentially reflects operating risk) and a leverage component (that reflects financing risk). The empirical analysis shows that the enterprise book-to-price ratio is positively related to subsequent stock returns but, conditional upon the enterprise book-to-price, the leverage component of B/P is negatively associated with future stock returns. Further, both enterprise book-to-price and leverage explain returns over those associated with Fama and French nominated factors including the book-to-price factor albeit negatively so for leverage. The seemingly perverse finding with respect to the leverage component of B/P survives under controls for size, estimated beta, return volatility, momentum, and default risk.

JEL Classification: G12, G32, G14

Suggested Citation

Penman, Stephen H. and Richardson, Scott Anthony and Tuna, Ayse Irem, The Book-to-Price Effect in Stock Returns: Accounting for Leverage. Journal of Accounting Research, Vol. 45, No. 2, pp. 427-467, May 2007. Available at SSRN: https://ssrn.com/abstract=1065873 or http://dx.doi.org/10.1111/j.1475-679X.2007.00240.x

Stephen H. Penman (Contact Author)

Columbia Business School - Department of Accounting ( email )

3022 Broadway
New York, NY 10027
United States
212-854-9151 (Phone)
212-316-9219 (Fax)

Scott Anthony Richardson

AQR Capital Management, LLC ( email )

Greenwich, CT
United States

London Business School ( email )

Sussex Place
Regent's Park
London, London NW1 4SA
United Kingdom

Ayse Irem Tuna

London Business School ( email )

Sussex Place
Regent's Park
London, London NW1 4SA
United Kingdom

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