Fundamental Analysis: Combining the Search for Quality with the Search for Value

63 Pages Posted: 5 Mar 2018 Last revised: 8 Aug 2018

See all articles by Kevin K. Li

Kevin K. Li

Santa Clara University

Partha S. Mohanram

Rotman School of Management, University of Toronto

Multiple version iconThere are 2 versions of this paper

Date Written: February 23, 2018

Abstract

Using cross-sectional forecasts, we combine fundamental analysis strategies based on quality, such as the FSCORE from Piotroski (2000) and the GSCORE from Mohanram (2005), with strategies based on value, such as the V/P ratio from Frankel and Lee (1998) and the PEG ratio. While all four strategies generate significant hedge returns, combining quality-driven and value-driven approaches substantially improves the efficacy of fundamental analysis. Our parsimonious two-dimensional approach can be applied to a wide cross-section of stocks and outperforms common practitioner approaches that require a lengthy time-series of data. The improvements in hedge returns hold for a variety of partitions and are robust to controls for risk factors and other determinants of stock returns. While the efficacy of fundamental analysis has declined in recent years, this can partially be attributed to investors arbitraging away excess returns by investing in fundamental strategies.

Keywords: Fundamental Analysis, Quality, Value, Mispricing

JEL Classification: G11, G12, G14, M41

Suggested Citation

Li, Kevin K. and Mohanram, Partha S., Fundamental Analysis: Combining the Search for Quality with the Search for Value (February 23, 2018). Contemporary Accounting Research, Forthcoming, Available at SSRN: https://ssrn.com/abstract=3129156 or http://dx.doi.org/10.2139/ssrn.3129156

Kevin K. Li

Santa Clara University ( email )

500 El Camino Real
Santa Clara, CA 95053
United States

Partha S. Mohanram (Contact Author)

Rotman School of Management, University of Toronto ( email )

Canada

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