Which Expectation? Toward a Unified Framework of Expectations-Based Asset Pricing

69 Pages Posted: 30 Jan 2022 Last revised: 26 Apr 2022

See all articles by Yingguang (Conson) Zhang

Yingguang (Conson) Zhang

Peking University - Department of Finance, Guanghua School of Management

Date Written: January 27, 2022

Abstract

I propose an expectations-based theory that can account for many cross-sectional anomalies. In the model, investors have sticky expectations on cash flow levels, and this stickiness interacts with growth extrapolations to generate novel predictions. A new measure derived from the model forecasts contrarian profits, explains common factor premia, and predicts the timing of price momentum and reversal. The resultant trading strategies yield abnormal returns of 7% to 12% per year. Simulation and empirical results using 69 anomalies strongly support the model's additional predictions: (1) mispricing associated with growth (level) forecast errors are persistent (transient), and (2) ex ante anomaly variables reliably predict the ex post term structure of analyst forecast errors.

Keywords: Asset pricing, stock returns, expectation, extrapolation, momentum, reversal, mispricing

JEL Classification: G11, G12

Suggested Citation

Zhang, Yingguang, Which Expectation? Toward a Unified Framework of Expectations-Based Asset Pricing (January 27, 2022). Available at SSRN: https://ssrn.com/abstract=4019170 or http://dx.doi.org/10.2139/ssrn.4019170

Yingguang Zhang (Contact Author)

Peking University - Department of Finance, Guanghua School of Management ( email )

Beijing, Beijing 100871
China

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