Journal of Financial Economics Vol. 135 No. 1 2020
Earnings, retained earnings, and book-to-market in the cross section of expected returns
Abstract
Book value of equity consists of two economically different components: retained earnings and contributed capital. We predict that book-to-market strategies work because the retained earnings component of the book value of equity includes the accumulation and, hence, the averaging of past earnings. Retained earnings-to-market predicts the cross section of average returns in U.S. and international data and subsumes book-to-market. Contributed capital-to-market has no predictive power. We show that retained earnings-to-market, and, by extension, book-to-market, predicts returns because it is a good proxy for underlying earnings yield (Ball, 1978; Berk, 1995) and not because book value represents intrinsic value.
- DOI
- 10.1016/j.jfineco.2019.05.013
- Volume
- 135
- Issue
- 1
- Pages
- 231-254
- Language
- en
- Sources
- bibtex:phds-export.bib openalex crossref