Going by the Book: Valuation Ratios and Stock Returns

55 Pages Posted: 27 Sep 2021 Last revised: 23 May 2023

See all articles by Ki-Soon Choi

Ki-Soon Choi

Boston College - Department of Accounting

Eric C. So

Massachusetts Institute of Technology (MIT) - Sloan School of Management

Charles C. Y. Wang

Harvard University - Accounting & Control Unit; European Corporate Governance Institute (ECGI)

Date Written: May 21, 2023

Abstract

We show that continued reliance on firms' book-to-market ratios (B/M) in value investing, despite evidence of increasing noise in B/M, has wide-ranging effects on firms, market outcomes, and investment fund performance. Our study is motivated by the fact that major U.S. stock indexes and institutional funds continue relying on B/M when identifying value stocks and selecting index weights. Consistent with this reliance shaping market outcomes, we find firms' stock returns and trading volumes comove with B/M-peers (i.e., firms with similar B/M) in excess of their fundamentals, particularly among stocks held by value-oriented funds. Firms misidentified as value companies based on B/M also appear to have lower costs of capital. Finally, we show that investment funds that disproportionately rely on B/M earn predictably lower returns.

Keywords: Valuation; Market-to-book ratio; Value investing; Excess comovement

JEL Classification: G10, G11, G14, G20, M41

Suggested Citation

Choi, Ki-Soon and So, Eric C. and Wang, Charles C. Y., Going by the Book: Valuation Ratios and Stock Returns (May 21, 2023). Available at SSRN: https://ssrn.com/abstract=3854022 or http://dx.doi.org/10.2139/ssrn.3854022

Ki-Soon Choi

Boston College - Department of Accounting ( email )

Carroll School of Management
140 Commonwealth Avenue
Chestnut Hill, MA 02467
United States

Eric C. So (Contact Author)

Massachusetts Institute of Technology (MIT) - Sloan School of Management ( email )

100 Main Street
E62-416
Cambridge, MA 02142
United States

Charles C. Y. Wang

Harvard University - Accounting & Control Unit ( email )

Soldiers Field
Boston, MA 02163
United States

European Corporate Governance Institute (ECGI) ( email )

c/o the Royal Academies of Belgium
Rue Ducale 1 Hertogsstraat
1000 Brussels
Belgium

Do you have negative results from your research you’d like to share?

Paper statistics

Downloads
1,195
Abstract Views
5,931
Rank
32,582
PlumX Metrics