The Equity as a Call Option Hypothesis for the Value Premium

International Research Journal of Finance and Economics, Vol 130, No. 1, (2015), 55-70.

17 Pages Posted: 9 Oct 2013 Last revised: 29 May 2015

See all articles by Yufen Fu

Yufen Fu

Tunghai University

George Blazenko

Simon Fraser University (SFU) - Finance Area

Date Written: October 8, 2013

Abstract

The value premium is the empirical observation that low market/book “value” stocks have higher returns than high market/book “growth” stocks. In this paper, we investigate and present evidence for an “equity as a call option hypothesis” for the value premium. Volatility decreases the options-leverage of equity, which decreases expected return. At the same time, volatility increases value for equities with options features and, thus, it increases market/book. Because volatility has opposite impacts on expected return and value, there is a value premium.

Keywords: Equity Returns, Real Options, Volatility, Value Premium

JEL Classification: G12, G32, G33, G35

Suggested Citation

Fu, Yufen and Blazenko, George W., The Equity as a Call Option Hypothesis for the Value Premium (October 8, 2013). International Research Journal of Finance and Economics, Vol 130, No. 1, (2015), 55-70.. Available at SSRN: https://ssrn.com/abstract=2337634 or http://dx.doi.org/10.2139/ssrn.2337634

Yufen Fu

Tunghai University ( email )

Taichung 407
Taiwan

George W. Blazenko (Contact Author)

Simon Fraser University (SFU) - Finance Area ( email )

Burnaby, British Columbia V5A 1S6
Canada

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