Expected Stock Returns and Firm Characteristics: E-LASSO, Assessment, and Implications

68 Pages Posted: 13 Jun 2018 Last revised: 11 Sep 2021

See all articles by Yufeng Han

Yufeng Han

University of North Carolina (UNC) at Charlotte - Finance

Ai He

University of South Carolina - Darla Moore School of Business

David Rapach

Washington University in St. Louis; Saint Louis University

Guofu Zhou

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

Date Written: September 10, 2021

Abstract

We develop new methods for constructing and analyzing cross-sectional stock return forecasts. We propose an E-LASSO approach that uses the LASSO, forecast combination, and forecast encompassing to implement shrinkage in a flexible manner designed to handle a large number of firm characteristics. We provide a cross-sectional out-of-sample R-squared statistic for assessing the accuracy of cross-sectional forecasts. Empirically, with presently the largest set of 193 firm characteristics, we find that our E-LASSO forecast produces significant cross-sectional out-of-sample R-squared gains and generates substantial economic value consistently over time. We further find that many firm characteristics matter, instead of a dozen or so.

Keywords: Cross-sectional expected stock returns, Characteristic premia, Shrinkage, LASSO, Forecast combination, Forecast encompassing

JEL Classification: C53, C55, C58, G11, G12, G17

Suggested Citation

Han, Yufeng and He, Ai and Rapach, David and Rapach, David and Zhou, Guofu, Expected Stock Returns and Firm Characteristics: E-LASSO, Assessment, and Implications (September 10, 2021). 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 - Darla Moore School of Business ( 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/

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