The Use of Asset Growth in Empirical Asset Pricing Models

80 Pages Posted: 28 Aug 2017 Last revised: 12 May 2020

See all articles by Michael J. Cooper

Michael J. Cooper

University of Utah - David Eccles School of Business

Huseyin Gulen

Purdue University - Krannert School of Management

Mihai Ion

University of Arizona - Department of Finance

Date Written: April 2020

Abstract

We provide evidence that the empirical performance of the new factor models proposed by Hou,
Xue, and Zhang (2015) and Fama and French (2015) depends crucially on how their investment
factor is constructed. Both models use growth in total assets to measure investment. We show that
their ability to price the cross-section of returns decreases significantly when the investment factor
is constructed using traditional investment measures, or arguably more complete measures that
account for investment in intangibles. In addition, the superior performance of the asset-growth based models manifests only when the economy is in a highly overextrapolative state. Furthermore,
we show evidence that firms with extreme levels of asset growth score significantly higher on a
firm-level measure of overextrapolation, which is not the case for firms with extreme values of
more traditional measures of investment. Overall, our results support the hypothesis that the
explanatory power of the asset growth factor is derived to a significant degree from the return
comovement induced by a correction of overextrapolation.

Keywords: Anomalies, factor model, asset growth, investment, the q-factor model, dividend discount model

JEL Classification: G12

Suggested Citation

Cooper, Michael J. and Gulen, Huseyin and Ion, Mihai, The Use of Asset Growth in Empirical Asset Pricing Models (April 2020). Available at SSRN: https://ssrn.com/abstract=3026534 or http://dx.doi.org/10.2139/ssrn.3026534

Michael J. Cooper (Contact Author)

University of Utah - David Eccles School of Business ( email )

1645 E Campus Center Dr
Salt Lake City, UT 84112-9303
United States

Huseyin Gulen

Purdue University - Krannert School of Management ( email )

1310 Krannert Building
West Lafayette, IN 47907-1310
United States

Mihai Ion

University of Arizona - Department of Finance ( email )

McClelland Hall
P.O. Box 210108
Tucson, AZ 85721-0108
United States
5206210737 (Phone)

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