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A Generalized Earnings-Based Stock Valuation Model

Author

Listed:
  • Ming Dong

    (York University - Schulich School of Business)

  • David Hirshleifer

    (Ohio State University - Fisher College of Business)

Abstract

This paper provides a model for valuing stocks that takes into account the stochastic processes for earnings and interest rates. Our analysis differs from past research of this type in being applicable to stocks that have a positive probability of zero or negative earnings. By avoiding the singularity at the zero point, our earnings-based pricing model achieves improved pricing performance. The out-of-sample pricing performance of Generalized Earnings Valuation Model (GEVM) and the Bakshi and Chen (2001) pricing model are compared on four stocks and two indices. The generalized model has smaller pricing errors, and greater parameter stability. Furthermore, deviations between market and model prices tend to be mean-reverting using the GEVM model, suggesting that the model may be able to identify stock market misvaluation.

Suggested Citation

  • Ming Dong & David Hirshleifer, 2004. "A Generalized Earnings-Based Stock Valuation Model," Finance 0412008, University Library of Munich, Germany.
    • Handle: RePEc:wpa:wuwpfi:0412008
    Note: Type of Document - pdf; pages: 44
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    References listed on IDEAS

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    Cited by:

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    2. Bergeron, Claude, 2013. "Dividend sensitivity to economic factors, stock valuation, and long-run risk," Finance Research Letters, Elsevier, vol. 10(4), pages 184-195.

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    More about this item

    Keywords

    Stock valuation; negative earnings; asset pricing;
    All these keywords.

    JEL classification:

    • G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing

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