CAPM for estimating the cost of equity capital: Interpreting the empirical evidence

Journal of Financial Economics

Volumn 103, Issue 1, 2012, Pages 204-220

  Da, Zhi ^a   Guo, Re Jin ^b   Jagannathan, Ravi ^c,d  

^a UNIVERSITY OF NOTRE DAME   (United States)

^b UNIVERSITY OF ILLINOIS AT CHICAGO   (United States)

^c NORTHWESTERN UNIVERSITY   (United States)

^d NATIONAL BUREAU OF ECONOMIC RESEARCH   (United States)

Author keywords

Asset pricing anomalies; Beta; Capital budgeting; Cost of capital

Indexed keywords

EID: 81055156128     PISSN: 0304405X     EISSN: None     Source Type: Journal    
DOI: 10.1016/j.jfineco.2011.08.011     Document Type: Article

References (82)

1. Abel A., Dixit A., Eberly J., Pindyck R. Options, the value of capital, and investment. Quarterly Journal of Economics 1996, 111:753-777.
2. Adrian, T., Franzoni, F., 2008. Learning about Beta: Time-Varying Factor Loadings, Expected Returns, and the Conditional CAPM. Unpublished Working Paper. Federal Reserve Bank of New York.
3. Anderson C., Garcia-Feijoo L. Empirical evidence on capital investment, growth options, and security returns. Journal of Finance 2006, 61:171-194.
4. Ang A., Chen J. CAPM over the long run: 1926-2001. Journal of Empirical Finance 2007, 14:1-40.
5. Ang A., Hodrick R., Xing Y., Zhang X. The cross section of volatility and expected returns. Journal of Finance 2006, 61:259-299.
6. Ang A., Liu J. How to discount cash flows with time-varying expected returns. Journal of Finance 2004, 59:2745-2783.
7. Bali T., Cakici N., Tang Y. The conditional beta and the cross section of expected returns. Financial Management 2009, 38:103-137.
8. Ball R., Brown P. An empirical evaluation of accounting income numbers. Journal of Accounting Research 1968, 6:159-178.
9. Banz R.W. The relationship between return and market value of common stocks. Journal of Financial Economics 1981, 9:3-18.
10. Basu S. The relationship between earnings yield, market value, and return for NYSE common stocks: further evidence. Journal of Financial Economics 1983, 12:129-156.
11. Bauer, R., Cosemans, M., Frehen, R., Schotman, P., 2009. Efficient Estimation of Firm-Specific Betas and its Benefits for Asset Pricing and Portfolio Choice. Unpublished Working Paper. University of Amsterdam.
12. Bekaert, G., Hodrick, R., Zhang, X., 2010. Aggregate Idiosyncratic Volatility. Unpublished Working Paper. Columbia University.
13. Berk J. A critique of size-related anomalies. Review of Financial Studies 1995, 8:275-286.
14. Berk J., Green R., Naik V. Optimal investment, growth options, and security returns. Journal of Finance 1999, 54:1553-1607.
15. Benard V., Thomas J. Evidence that stock markets do not fully reflect the implications of current earnings for future earnings. Journal of Accounting and Economics 1990, 13:305-340.
16. Bernardo A., Chowdhry B., Goyal A. Growth options, beta, and the cost of capital. Financial Management 2007, 36:5-17.
17. Black F., Scholes H. The pricing of options and corporate liabilities. Journal of Political Economy 1973, 18:637-659.
18. Campbell J. Consumption-based asset pricing. Handbook of the Economics of Finance 2003, vol. IB:803-887. North-Holland, Amsterdam, (Chapter 13).
19. Cao C., Simin T., Zhao J. Can growth options explain the trend in idiosyncratic risk?. Review of Financial Studies 2008, 21:2599-2633.
20. Carlson M., Fisher A., Giammarino R. Corporate investment and asset price dynamics: implications for the cross section of returns. Journal of Finance 2004, 59:2577-2603.
21. Chan K., Hameed A., Lau S. What if trading location is different from business location? Evidence from the Jardine Group. Journal of Finance 2003, 58:1221-1246.
22. Chan K., Jegadeesh N., Lakonishok J. Momentum strategies. Journal of Finance 1996, 51:1681-1713.
23. Chen, L., Novy-Marx, R., Zhang, L., 2010. An Alternative Three-Factor Model. Unpublished Working Paper. Ohio State University.
24. Connor G. A unified beta pricing theory. Journal of Economic Theory 1984, 34:13-31.
25. Cooper I. Asset pricing implication of nonconvex adjustment costs and irreversibility of investment. Journal of Finance 2006, 61:139-170.
26. Cooper, I., Priestley, R., 2010. Real Investment, Risk, and Risk Dynamics. Unpublished Working Paper. Norwegian School of Management.
27. Cooper M., Gulen H., Schill M. Asset growth and the cross section of stock returns. Journal of Finance 2008, 63:1609-1652.
28. DeBondt W., Thaler R. Does the stock market overreact?. Journal of Finance 1985, 40:793-805.
29. Duffie D. Intertemporal asset pricing theory. Handbook of the Economics of Finance 2003, vol. IB:639-742. North-Holland, Amsterdam, (Chapter 11).
30. Dybvig P., Ingersoll J. Mean-variance theory in complete markets. Journal of Business 1982, 55:233-251.
31. Dybvig P., Ross S. Differential information and performance measurement using a security market line. Journal of Finance 1985, 40:383-399.
32. Fama E., French K. The cross section of expected stock returns. Journal of Finance 1992, 47:427-465.
33. Fama E., French K. Common risk factors in stock and bond returns. Journal of Financial Economics 1993, 33:3-56.
34. Fama E., French K. The CAPM is wanted, dead or alive. Journal of Finance 1996, 51:1947-1958.
35. Fama E., French K. Industry cost of capital. Journal of Financial Economics 1997, 43:153-193.
36. Fama E., French K. The corporate cost of capital and the return on corporate investment. Journal of Finance 1999, 54:1939-1967.
37. Fama E., French K. The CAPM: theory and evidence. Journal of Economic Perspectives 2004, 18:25-46.
38. Fama E., French K. The value premium and the CAPM. Journal of Finance 2006, 61:2163-2185.
39. Fama E., MacBeth J. Risk, return, and equilibrium: empirical tests. Journal of Political Economy 1973, 81:607-636.
40. Ferson W. Tests of multifactor pricing models, volatility bounds and portfolio performance. Handbook of the Economics of Finance 2003, 743-800. North Holland, Amsterdam. G. Constantinides, M. Harris, R. Stulz (Eds.).
41. Ferson W., Locke D.H. Estimating the cost of capital through time: an analysis of the sources of error. Management Science 1998, 44:485-500.
42. Glosten L., Jagannathan R. A contingent claim approach to performance evaluation. Journal of Empirical Finance 1994, 1(2):133-160.
43. Gomes J.F., Kogan L., Zhang L. Equilibrium cross section of returns. Journal of Political Economy 2003, 111:693-732.
44. Graham J.R., Harvey C. The theory and practice of corporate finance: evidence from the field. Journal of Financial Economics 2001, 60:187-243.
45. Gulen H., Xing Y., Zhang L. Value versus growth: time-varying expected stock returns. Financial Management 2011, 40:381-407.
46. Hansen L.P., Richard S. The role of conditioning information in deducing testable restrictions implied by dynamic asset pricing models. Econometrica 1987, 55:587-613.
47. Henriksson R., Merton R. On market timing and investment performance II: statistical procedure for evaluating forecasting skills. Journal of Business 1981, 54:513-533.
48. Hoberg, G., Welch, I., 2007. Aged and Recent Market Betas in Securities Pricing. Unpublished Working Paper. Brown University.
49. Jegadeesh N., Titman S. Returns to buying winners and selling losers: implications for stock market efficiency. Journal of Finance 1993, 48:65-91.
50. Jagannathan, R., Kim, S., Skoulakis, G., 2010. Revisiting the Errors in Variables Problem in Studying the Cross Section of Stock Returns. Unpublished Working Paper. Northwestern University.
51. Jagannathan R., Korajczyk R.A. Assessing the market timing performance of managed portfolios. Journal of Business 1986, 59:217-235.
52. Jagannathan R., Meier I. Do we need CAPM for capital budgeting?. Financial Management 2002, 31:5-27.
53. Jagannathan, R., Meier, I., Tarhan, V., 2011. The Cross Section of Hurdle Rates for Capital Budgeting: An Empirical Analysis of Survey Data. Unpublished Working Paper. Northwestern University.
54. Jagannathan R., Wang Z. The conditional CAPM and the cross section of expected returns. Journal of Finance 1996, 51:3-53.
55. Kim D. The errors in the variables problem in the cross section of expected returns. Journal of Finance 1995, 50:1605-1634.
56. Kumar P., Srescu S., Boehme R., Danielsen B. Estimation risk, information, and the conditional CAPM: theory and evidence. Review of Financial Studies 2008, 21:1037-1075.
57. Lakonishok J., Shleifer A., Vishny R. Contrarian investment, extrapolation, and risk. Journal of Finance 1994, 49:1541-1578.
58. Lettau M., Ludvigson S. Resurrecting the (C)CAPM: a cross-sectional test when risk premia are time-varying. Journal of Political Economy 2001, 109:1238-1287.
59. Levy M., Roll R. The market portfolio may be mean/variance efficient after all. Review of Financial Studies 2010, 23:2464-2491.
60. Lewellen J., Nagel S. The conditional CAPM does not explain asset pricing anomalies. Journal of Financial Economics 2006, 82:289-314.
61. Lintner J. The valuation of risky assets and the selection of risky investments in stock portfolios and capital budgets. Review of Economics and Statistics 1965, 47:13-37.
62. Liu L.X., Whited T.M., Zhang L. Investment-based expected stock returns. Journal of Political Economy 2009, 117:1105-1139.
63. Lustig H., Van Nieuwerburgh S. Housing collateral, consumption insurance, and risk premia: an empirical perspective. Journal of Finance 2005, 60:1167-1219.
64. Mamaysky H., Spiegel M., Zhang H. Estimating the dynamics of mutual fund alphas and betas. Review of Financial Studies 2008, 21:233-264.
65. McDonald R.L., Siegel D. Investment and the valuation of firms when there is an option to shut down. International Economic Review 1985, 26:331-349.
66. Mehra R., Prescott E. The equity premium in retrospect. Handbook of the Economics of Finance 2003, vol. IB:889-938. North-Holland, Amsterdam.
67. Merton R. On market timing and investment performance, I: an equilibrium theory of value for market forecasts. Journal of Business 1981, 54:363-406.
68. Newey W., West K. A simple, positive semi-definite, heteroscedasticity and autocorrelation consistent covariance matrix. Econometrica 1987, 55:703-708.
69. Pastor L., Stambaugh R. Costs of equity capital and model mispricing. Journal of Finance 1999, 54:67-121.
70. Pastor L., Stambaugh R. Liquidity risk and expected stock returns. Journal of Political Economy 2003, 111:642-685.
71. Petkova P., Zhang L. Is value riskier than growth?. Journal of Financial Economics 2005, 78:187-202.
72. Rosenberg B., Reid J., Lanstein R. Persuasive evidence of market inefficiency. Journal of Portfolio Management 1985, 11:9-17.
73. Ross S. The arbitrage theory of capital asset pricing. Journal of Economic Theory 1976, 13:341-360.
74. Rubinstein M. The valuation of uncertain income streams and the pricing of options. Bell Journal of Economics 1976, 7:407-425.
75. Santos, T., Veronesi, P., 2006. Habit Formation, the Cross Section of Stock Returns and the Cash-Flow Risk Puzzle. Unpublished Working Paper. University of Chicago.
76. Sharpe W. Capital asset prices: a theory of market equilibrium under conditions of risk. Journal of Finance 1964, 19:425-442.
77. Smith C., Watts R. The investment opportunity set and corporate financing, dividend and compensation policies. Journal of Financial Economics 1992, 32:263-292.
78. Treynor J., Mazuy F. Can mutual funds outguess the market?. Harvard Business Review 1966, 44:131-136.
79. Wang K.Q. Asset pricing with conditioning information: a new test. Journal of Finance 2003, 58:161-196.
80. Welch, I., 2008. The Consensus Estimate for the Equity Premium by Academic Financial Economists in December 2007. Unpublished Working Paper. Brown University.
81. Xing Y. Interpreting the value effect through the Q-theory: an empirical investigation. Review of Financial Studies 2008, 21:1767-1795.
82. Zhang L. The value premium. Journal of Finance 2005, 60:67-103.