Investment-Based Expected Stock Returns

36 Pages Posted: 16 Oct 2009  

Laura Xiaolei Liu

Guanghua School of Management, Peking University

Toni M. Whited

University of Michigan, Stephen M. Ross School of Business; National Bureau of Economic Research

Lu Zhang

Ohio State University - Fisher College of Business; National Bureau of Economic Research (NBER)

Multiple version iconThere are 2 versions of this paper

Date Written: October 15, 2009

Abstract

We derive and test q-theory implications for cross-sectional stock returns. Under constant returns to scale, stock returns equal levered investment returns, which are tied directly to firm characteristics. When we use GMM to match average levered investment returns to average observed stock returns, the model captures the average stock returns of portfolios sorted by earnings surprises, book-to-market equity, and capital investment. When we try to match expected returns and return variances simultaneously, the variances predicted in the model are largely comparable to those observed in the data. However, the resulting expected return errors are large.

Keywords: q-theory, the cross-section of expected returns, investment-based asset pricing, stock return volatility, structural estimation

JEL Classification: D21, D92, E22, E44, G12, G14, G31, G32, G35

Suggested Citation

Liu, Laura Xiaolei and Whited, Toni M. and Zhang, Lu, Investment-Based Expected Stock Returns (October 15, 2009). Journal of Political Economy, Forthcoming; Simon School Working Paper No. FR 10-03. Available at SSRN: https://ssrn.com/abstract=1489724

Laura Xiaolei Liu

Guanghua School of Management, Peking University ( email )

Peking University
Beijing, Beijing 100871
China

HOME PAGE: http://www.pku.edu.lauraliu.cn/en-home.html

Toni M. Whited

University of Michigan, Stephen M. Ross School of Business ( email )

701 Tappan Street
Ann Arbor, MI MI 48109
United States

National Bureau of Economic Research ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Lu Zhang (Contact Author)

Ohio State University - Fisher College of Business ( email )

2100 Neil Avenue
Columbus, OH 43210-1144
United States
585-267-6250 (Phone)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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