Fundamental Extrapolation and Stock Returns
European Finance Association 2020 Annual Meeting (virtual), American Finance Association 2022 Annual Meeting (Boston, Scheduled)
66 Pages Posted: 16 Oct 2020 Last revised: 18 Jun 2021
Date Written: August 21, 2020
We propose a pooling fundamental extrapolation strategy by using all fundamentals simultaneously. This strategy outperforms naive extrapolation strategies that use a single fundamental variable and strategies that use past prices or analyst forecasts. Since the strategy's performance is unexplained by existing theories, we provide a model to show that it has dual price effects: a cash flow effect that pushes stock price up relative to its fundamental value and a discount rate effect that increases the representative investor's expected volatility and depresses stock price. Our empirical results suggest that the discount rate effect dominates the cash flow effect.
Keywords: Fundamental Extrapolation; Return Extrapolation; Volatility; Expectation
JEL Classification: G41, G14
Suggested Citation: Suggested Citation