Abstract

https://ssrn.com/abstract=2370686
 


 



Implied Cost of Equity Capital Estimates as Predictors of Accounting Returns and Stock Returns


Stephannie Larocque


University of Notre Dame - Mendoza College of Business

Matthew R. Lyle


Northwestern University - Kellogg School of Management

December 22, 2016


Abstract:     
Using a popular return decomposition, we show that expected returns should on average be positively associated with future return on equity (ROE), controlling for the book-to-market ratio (BM). However, we find that none of the commonly-used implied cost of equity capital estimates (ICCs), which proxy for expected returns, are positively associated with future ROE. This lack of association with future accounting returns appears to affect the ability of ICCs to forecast future stock returns: ICCs do not provide information about future stock returns incremental to that contained in a linear combination of current ROE and BM. Our findings suggest that tractable accounting-based models that linearly combine BM and ROE, or other accounting-based variables, offer improvements on extant ICCs as expected returns proxies.

Number of Pages in PDF File: 51

Keywords: cost of capital; expected returns; ROE

JEL Classification: M41, G3


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Date posted: December 22, 2013 ; Last revised: December 22, 2016

Suggested Citation

Larocque, Stephannie and Lyle, Matthew R., Implied Cost of Equity Capital Estimates as Predictors of Accounting Returns and Stock Returns (December 22, 2016). Available at SSRN: https://ssrn.com/abstract=2370686 or http://dx.doi.org/10.2139/ssrn.2370686

Contact Information

Stephannie A. Larocque (Contact Author)
University of Notre Dame - Mendoza College of Business ( email )
Mendoza College of Business
Notre Dame, IN 46556-5646
United States
Matthew R. Lyle
Northwestern University - Kellogg School of Management ( email )
2001 Sheridan Road
Evanston, IL 60208
United States
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