Combination Return Forecasts and Portfolio Allocation with the Cross-Section of Book-to-Market Ratios

Review of Finance, Forthcoming

64 Pages Posted: 1 Jul 2016 Last revised: 21 Sep 2017

See all articles by Andrew L. Detzel

Andrew L. Detzel

University of Denver - Daniels College of Business

Jack Strauss

University of Denver - Reiman School of Finance; University of Denver

Date Written: June 30, 2017

Abstract

In this paper, we forecast industry returns out-of-sample using the cross-section of book-to-market ratios and investigate whether investors can exploit this predictability in portfolio allocation. Cash-flow and return forecasting regressions show that cross-industry book-to-market ratios contain significant predictive information beyond aggregate and industry-specific book-to-market ratios. Forecast combination methods based on industry book-to-market ratios generate significant out-of-sample predictability for many industries. Real-time portfolio-rotation strategies that buy industries with high predicted returns and short industries with low predicted returns based on combination forecasts earn significant alpha with respect to standard asset pricing models net of transaction costs.

Keywords: Industry Return Predictability, Portfolio Allocation, Book-to-Market

JEL Classification: G11, G12, G17

Suggested Citation

Detzel, Andrew L. and Strauss, Jack, Combination Return Forecasts and Portfolio Allocation with the Cross-Section of Book-to-Market Ratios (June 30, 2017). Review of Finance, Forthcoming. Available at SSRN: https://ssrn.com/abstract=2803482

Andrew L. Detzel (Contact Author)

University of Denver - Daniels College of Business ( email )

2101 S. University Blvd
Denver, CO 80208
United States

HOME PAGE: http://portfolio.du.edu/adetzel

Jack Strauss

University of Denver - Reiman School of Finance ( email )

2101 S. University Blvd
Denver, CO COLORADO 80126
United States
314 602 7265 (Phone)

University of Denver ( email )

2201 S. Gaylord St
Denver, CO 80208-2685
United States

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