Constructing a Powerful Profitability Factor: International Evidence
56 Pages Posted: 28 Aug 2018 Last revised: 3 Oct 2018
Date Written: September 25, 2018
Recent findings for the U.S. stock market indicate that cash-based profitability measures (i.e., profitability measures that exclude accounting accruals) outperform measures of profitability that include accruals. We demonstrate that this result also holds for international markets. In a comparison of different profitability definitions, we find that a factor based on cash-based gross profitability (gross profitability adjusted for accounting accruals) subsumes other popular profitability factors based on time-series, factor-spanning, and cross-sectional asset pricing tests. We therefore propose that a profitability factor based on cash-based gross profitability should be used in international factor models.
Keywords: Factor models, Profitability, International Markets, Anomalies
JEL Classification: G11, G12, G15
Suggested Citation: Suggested Citation