Stock Recommendations from Stochastic Discounted Cash Flows

16 Pages Posted: 1 Jul 2020 Last revised: 30 Mar 2021

See all articles by Giulio Bottazzi

Giulio Bottazzi

Scuola Superiore Sant'Anna di Pisa - Laboratory of Economics and Management (LEM)

Francesco Cordoni

University of Pisa - Department of Economics and Management

Giulia Livieri

Scuola Normale Superiore

Stefano Marmi

Scuola Normale Superiore

Date Written: June 7, 2020

Abstract

We present two stock recommendation systems based on stochastic characterization of firm present value that extends the conventional discounted cash flow analysis. The single-stock quantile recommendation system compares the market price of a company's stocks with the estimated distribution of the company's fair value to obtain an individual measure of mispricing, while the cross-sectional quantile system builds a relative measure of mispricing using the fair-value distribution of all firms. Both systems use mispricing information to build sell side and buy side portfolios. Statistical tests show that these portfolios consistently deliver significant excess returns even when rebalancing costs are accounted for. Moreover, we show how analysts' indications can be improved by using the first two moments of their recommendations following the same procedure of the cross-sectional quantile system.

Keywords: Stochastic Discounted Cash Flow, Asset Valuation, Valuation Uncertainty, Portfolio Strategy

JEL Classification: G11, G17, G32

Suggested Citation

Bottazzi, Giulio and Cordoni, Francesco and Livieri, Giulia and Marmi, Stefano, Stock Recommendations from Stochastic Discounted Cash Flows (June 7, 2020). Available at SSRN: https://ssrn.com/abstract=3621514 or http://dx.doi.org/10.2139/ssrn.3621514

Giulio Bottazzi

Scuola Superiore Sant'Anna di Pisa - Laboratory of Economics and Management (LEM) ( email )

Piazza Martiri della Liberta, 33
Pisa, I-56127
Italy
+39-050-883343 (Phone)
+39-050-883344 (Fax)

Francesco Cordoni (Contact Author)

University of Pisa - Department of Economics and Management ( email )

Italy

Giulia Livieri

Scuola Normale Superiore ( email )

Piazza dei Cavalieri, 7
Pisa, 56126
Italy

Stefano Marmi

Scuola Normale Superiore ( email )

Piazza dei Cavalieri, 7
Pisa, 56126
Italy
+39050509064 (Phone)
+39050563513 (Fax)

HOME PAGE: http://homepage.sns.it/marmi/

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