Firm Characteristics and Expected Stock Returns

62 Pages Posted: 13 Jun 2018 Last revised: 8 Aug 2019

See all articles by Yufeng Han

Yufeng Han

University of North Carolina (UNC) at Charlotte - Finance

Ai He

University of South Carolina - Department of Finance

David Rapach

Saint Louis University; Washington University in St. Louis

Guofu Zhou

Washington University in St. Louis - John M. Olin Business School; China Academy of Financial Research (CAFR)

Date Written: August 6, 2019

Abstract

Complementing the widely used conventional multiple regression approach — which can suffer from overfitting with a large number of predictors — we propose a combination Lasso (C-Lasso) approach to improve out-of-sample forecasts of cross-sectional expected stock returns via shrinkage. Using 99 firm characteristics and an out-of-sample period spanning more than four decades, an approach that blends conventional and C-Lasso forecasts delivers unbiased estimates of the cross-sectional dispersion in expected returns. Similarly, combining spread portfolios formed from conventional and C-Lasso forecasts generates substantial performance gains. Our results indicate that more characteristics matter for cross-sectional expected returns than previously believed, due to time-varying characteristic premia.

Keywords: Cross-sectional expected stock returns, Characteristic premia, Forecast combination, Lasso, Forecast encompassing, Fama-MacBeth regression

JEL Classification: G11, G14

Suggested Citation

Han, Yufeng and He, Ai and Rapach, David and Zhou, Guofu, Firm Characteristics and Expected Stock Returns (August 6, 2019). Available at SSRN: https://ssrn.com/abstract=3185335 or http://dx.doi.org/10.2139/ssrn.3185335

Yufeng Han

University of North Carolina (UNC) at Charlotte - Finance ( email )

9201 University City Boulevard
Charlotte, NC 28223
United States

Ai He

University of South Carolina - Department of Finance ( email )

1014 Greene Street
Columbia, SC 29208
United States

HOME PAGE: http://www.aihefinance.com/

David Rapach

Saint Louis University ( email )

3674 Lindell Blvd
St. Louis, MO 63108-3397
United States

HOME PAGE: http://https://sites.google.com/slu.edu/daverapach

Washington University in St. Louis

One Brookings Drive
Campus Box 1133
St. Louis, MO 63130-4899
United States

HOME PAGE: http://https://sites.google.com/slu.edu/daverapach

Guofu Zhou (Contact Author)

Washington University in St. Louis - John M. Olin Business School ( email )

Washington University
Campus Box 1133
St. Louis, MO 63130-4899
United States
314-935-6384 (Phone)
314-658-6359 (Fax)

HOME PAGE: http://apps.olin.wustl.edu/faculty/zhou/

China Academy of Financial Research (CAFR)

Shanghai Advanced Institute of Finance
Shanghai P.R.China, 200030
China

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