Gerzensee PhD Workshop, 2009
Firm Migration and Stock Returns by Giovanni W. Puopolo Discussion by Anna Cie´slak University of Lugano Institute of Finance
June 9, 2009
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The value premium ⊲ Value premium This paper Comment 1 & 2 Comment 3 Comment 4 Comment 5 Literature
Two elements make a story. I. time-varying (counter-cyclical) market price of risk + II. economic fundamentals of firms [Most rational] stories are about I+. i. Cash-flow/discount risk. Value stocks are exposed to cash-flow risk and growth—to discount risk; value covary more with consumption in bad times Lettau & Ludvigson (2001); Campbell & Vuolteenaho (2004); Campbell, Polk & Vuolteenaho (2007)
ii. Cash-flow duration. Value have lower duration than growth Lettau & Wachter (2007, 2009); Santos & Veronesi (2006)
iii. Long-run risk + cointegration + EZ . Value have a higher exposure to low-frequency fluctuations in aggregate consumption (LRR) than growth firms Hansen, Heaton & Li (2005); Kiku (2006); Bansal, Dittmar & Kiku (2007) This paper is about II.
c Gerzensee PhD Workshop ( 2009 Anna Cie´slak)
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This paper is about II. Value premium This paper Comment 1 & 2 Comment 3 Comment 4 Comment 5 Literature
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Setup... GE model of real investment reversible at a cost i. asymmetric cost → higher in contraction than in expansion ii. endogenous pricing kernel → counter-cyclical price of risk iii. 2 uncorrelated productive sectors + a pool sector Cross-sectional focus... on the link between firm characteristics (B/M) and returns, firm migration between value and growth Captures... i. convergence of Tobin’s Q [value ⇄ growth] ii. deviations from CAPM [2 sources of shocks] iii. non-monotone relation between Q and conditional return volatility [Ushaped, Kogan, 2004] [See also: Abel & Eberly, 1996]
c Gerzensee PhD Workshop ( 2009 Anna Cie´slak)
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Comments & suggestions Value premium This paper Comment 1 & 2 Comment 3 Comment 4 Comment 5 Literature
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GI1 We can learn a great deal about the marginal contribution of the real investment to the value premium! But should we hope for explaining it all? I2 Marginal vs average Q.
“The average q ratio for existing capital stocks may be a serious
understatement of q for new capital goods of a quite different nature. This occurs spectacularly when the new have rendered the old obsolete.”
[Tobin, 1977]
S′2 How to justify the immense growth in valuation in 1990s? S′′2 Which generates the value premium? Convergence or drift in M/B ratios? (Fama & French, 2007) Median M/B ratio of NYSE (1963–2007) NASDAQ (1973–2007) stocks M/B ratio in US market, & 1963−2007 2.5 2 1.5 1 NYSE Nasdaq data3
0.5 0
1965
c Gerzensee PhD Workshop ( 2009 Anna Cie´slak)
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1975
1980
1985
1990
1995
2000
2005
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Comments & suggestions Value premium This paper Comment 1 & 2 Comment 3 Comment 4 Comment 5 Literature
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I3 Calibrated parameters for the productivity process and risk aversion appear high: µ = 8%, σ = 14% and γ RRA = 15. S′3 Required to match historical moments of returns? S′′3 Try sensitivity, lower RRA, e.g. γ ∈ [1, 4] and justify the productivity growth number... Productivity of capital (p.a., %) Prod/h
Mean
Stdev
Manufacturing (1988–2008) Business (1948–2007) Nonfarm business (1948–2008)
3.44 2.47 2.23
1.74 1.60 1.50
Source: US Bureau of Labor Statistics
But... national accounts would suggest ROC in range of 5–15% (mean = 10%), measured as net operating surplus/capital stock (GS, 2009).
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Comments & suggestions Value premium This paper Comment 1 & 2 Comment 3 Comment 4 Comment 5 Literature
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I4 Migration can be different across industries... S′4 Could it be related to cross-industry differences in investment (ir)reversibility and/or productivity? S′′4 What is the role of the two sectors in the model? Migration by industry: 1963–2007, NYSE, AMEX, NASDAQ firms (%)
G(t-1) N(t-1) V(t-1)
Durables G(t) N(t) 72.6 24.7 15.0 66.6 2.4 24.7
Manufacturing G(t) N(t) G(t-1) 75.5 22.6 N(t-1) 14.1 67.5 V(t-1) 2.5 21.5
V(t) 2.8 18.4 72.9 V(t) 1.9 18.4 76.0
G(t-1) N(t-1) V(t-1)
Healthcare G(t) N(t) 83.9 13.8 31.6 50.0 13.7 28.1
V(t) 2.3 18.4 58.2
G(t-1) N(t-1) V(t-1)
Hitec G(t) N(t) 75.2 20.7 25.8 52.3 9.5 30.3
V(t) 4.1 21.8 60.2
Note: I compute the empirical probability that stock assigned to a B/M portfolio in June of year t − 1 moves to a different portfolio or stays in the same one in June t. Industry sort based on Compustat/CRSP SIC codes. V = top 30%; G = bottom 30%; N = middle 40%.
c Gerzensee PhD Workshop ( 2009 Anna Cie´slak)
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Comments & suggestions Value premium This paper Comment 1 & 2 Comment 3 Comment 4 Comment 5 Literature
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I5 Value stocks are perceived as more uncertain... a non-vanishing phenomenon... S′5 Could costly reversibility/real-options approach explain that? S′′5 Do we need an extra “translation mechanism” between real investment story and the price of risk story? Analyst uncertainty about value & growth (1985–2007) Mean analyst uncertainty Stdev analyst uncertainty
Growth
Neutral
Value
0.024 0.009
0.046 0.015
0.060 0.021
Note: I compute the mean absolute deviation (MAD) of individual analyst forecasts on the firm level, and scale it by the mean forecast. Earnings forecasts are from IBES. I merge IBES firm-level data with CRSP and Compustat. Portfolio sorts follow Fama-French methodology, and use triple sorts based on B/M, into top 30% (value) , middle 40% (neutral) and bottom 30% (growth).
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Literature Abel, A. B., and J. C. Eberly (1996): “Optimal Investment with Cost Reversibility,” Review of Economic Studies, 63, 581–593. Bansal, R., R. Dittmar, and D. Kiku (2009): “Cointegration and Consumption Risk in Asset Returns,” Review of Financial Studies, forthcoming. Campbell, J. Y., C. Polk, and T. Vuolteenaho (2007): “Growth or Glamour? Fundamentals and Systematic Risk in Stock Returns,” Review of Financial Studies, forthcoming. Campbell, J. Y., and T. Vuolteenaho (2004): “Bad Beta, Good Beta,” American Economic Review, 94, p. 1249–1275. Hansen, L. P., J. C. Heaton, and N. Li (2008): “Consumption Strikes Back? Measuring Long Run Risk,” Journal of Political Economy, 116, 260–302. Kiku, D. (2006): “Is the Value Premium a Puzzle?,” Working Paper, The Wharton School at the University of Pennsylvania.
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Literature Lettau, M., and S. Ludvigson (2001): “Consumption, Aggregate Wealth, and Expected Stock Returns,” Journal of Finance, 56, p. 815 – 849. Lettau, M., and J. Wachter (2007): “Why Is Long-Horizon Equity Less Risky? A Duration-Based Explanation of the Value Premium,” Journal of Finance, 62, 55–92. Lettau, M., and J. A. Wachter (2009): “The Term Structures of Equity and Interest Rates,” Working Paper, Columbia University and University of Pennsylvania, CEPR and NBER.
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