Abstract This paper analyzes the adjustment processes of financial ratios in the presence of costly adjustment and information uncertainty. The paper proposes a generalized partial adjustment-adaptive expectations model to characterize dynamic financial ratio adjustment processes. The proposed model incorporates the persistence of changes in industry averages into the process of financial ratio adjustment. The Gauss-Newton nonlinear regression method is used to estimate the structural parameters of the generalized model. Results show that adjustment to target ratios is not instantaneous. Results also show that there are differences in the patterns of ratio adjustment for firms in different industries with different sizes.

Cheng F. Lee, Chunchi Wu, K. C. John Wei, The Heterogeneous Investment Horizon and the Capital Asset Pricing Model: Theory and Implications, The Journal of Financial and Quantitative Analysis, Vol. 25, No. 3 (Sep., 1990), pp. 361-376

Based on the theory of the pricing of capital assets developed by Sharpe [12], Lintner [9] and Mossin [11], Professor Jensen formulated a return-generating model to measure portfolio performance [5]. In a subsequent paper, Professor Jensen [6] investigated the impact of the investment horizon on the functional form of the model. Lee [8] has proposed a generalized specification of the model to resolve this problem. Alternative estimation methods for testing the linearity of the model in terms of time-series data have also been suggested by Lee. Moreover, the stability of the beta coefficient over time and the impact of the market's condition on both the alpha (or, Jensen's measure of performance [5]) and beta of the model have come under scrutiny in financial research.