Dissecting Market Expectations in the Cross-Section of Book-to-Market Ratios

Critical Finance Review

15 Pages Posted: 16 Sep 2019 Last revised: 18 Feb 2021

See all articles by Thiago de Oliveira Souza

Thiago de Oliveira Souza

University of Southern Denmark; affiliation not provided to SSRN

Date Written: February 18, 2021

Abstract

This paper successfully replicates all the main results in Kelly and Pruitt (2013) for the return on the market - and provides some evidence of market premium predictability - based on their original empirical choices in the 1930-2010 sample (and, to some extent, based on other empirical choices). However, the evidence of market premium predictability, in particular, essentially disappears by making any one of the following changes: (i) Updating the sample to June 1926 - December 2019; (ii) not taking logs of the book-to-markets used as regressors; (iii) not dividing book-to-markets by their time-series standard deviations; or (iv) not taking one extra book-to-market lag (for monthly forecasts). In summary, I find no evidence that the procedure generates a valid forecasting model of market premiums with persistently positive out-of-sample R2, especially since the Oil Shock (or early 2000) in the full sample.

Keywords: Predictability, out-of-sample, equity premium, disaggregated book-to-markets.

JEL Classification: G11, G12, G14

Suggested Citation

de Oliveira Souza, Thiago and de Oliveira Souza, Thiago, Dissecting Market Expectations in the Cross-Section of Book-to-Market Ratios (February 18, 2021). Critical Finance Review, Available at SSRN: https://ssrn.com/abstract=3449526 or http://dx.doi.org/10.2139/ssrn.3449526

Thiago De Oliveira Souza (Contact Author)

affiliation not provided to SSRN

University of Southern Denmark ( email )

Campusvej 55
DK-5230 Odense, 5000
Denmark

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