PEER PRESSURE
Industry group impact on stock evaluation precision and contrarian strategy performance
INTRODUCTION
» stock valuation and portfolio—two core activities for equity investment managers
» stock valuation practitioners talk in term of the price/ book multiple
Academic researcher prefer analyzing this ratio in its inverted book-to-market form
Simple way: practitioner use of the ration for individual company, and academic researcher use for portfolio construction concern the universe of stock considered
» effectiveness of contrarian portfolio strategies:
1. short over a universe of all listed stock
2. generally focus on a narrow group of firm drawn from the same industries
» test whether the peer group perspective actually improvement upon assessment of relative value:
· first Examine the usefulness of book-to-market, cash flow-to-market, earnings-to-market ratios in explaining the cross-section of observed individual stock values
· Second we analyze the predictive power of an individual firm’s initial peer group valuation ranking for subsequent moves in its own ratio.
· Finally, we specifically highlight industry effects on portfolio design and returns to contrarians strategies
LITERATURE REVIEW
» lie and lie {2002} Apply the multiples-based firm valuation model in a peer group setting where industry peers are determined by SIC groupings
Interest lies in determining an individual firm’s initial value classification for its predictive power for future value ratios and stock return
» Dremen and Lufkin {1997} Analyze returns to contrarian strategies using relative-value rankings and compare them to returns from corresponding rankings based on aggregate market wide sorting.
DATA AND PEER GROUP CONSTRUCTION
» use monthly return, prices, and adjustment factors from the centre for the research in security prices monthly file
» Financial statement data come from the comp stat
» use firm’s market equity
» Kim and Ritter (1999) emphasize investment bankers use valuation via median peer group characteristic multiples for prospective IPO
USING CHARACTERISTIC MULTIPLE TO VALUE STOCK
» Lie and Lie (2002) by presuming that forming industry peer groups improves valuation precision
» industry based median ration approach significantly reduce stock pricing error compared aggregated median ratio approach
» using estimate from both equation that tell consistent story: currently observed stock prices cheapness or richness based on peer group ratio analysis tend to pesist over a one-year based.
DO RANKING PROCEDURE EXCESS RETURNS IN HEDGE PORTFOLIO
» the basic pattern found earlier tends to hold here as well: the industry-sorted peer group outperforms the aggregate approach.
RESULT FROM DECILE PORTFOLIO
» Our two key equal-weighted portfolios have been created by drawing the cheapest stocks and the richest stocks in each industry
“This hedge portfolio has no net exposure to industry effects”
CONCLUSSION
“Industry effects have material a material impact on portfolio risk”“ contrarian strategy portfolio performance is significantly improved in risk-adjusted term, when implemented in its industry-neut
Industry group impact on stock evaluation precision and contrarian strategy performance
INTRODUCTION
» stock valuation and portfolio—two core activities for equity investment managers
» stock valuation practitioners talk in term of the price/ book multiple
Academic researcher prefer analyzing this ratio in its inverted book-to-market form
Simple way: practitioner use of the ration for individual company, and academic researcher use for portfolio construction concern the universe of stock considered
» effectiveness of contrarian portfolio strategies:
1. short over a universe of all listed stock
2. generally focus on a narrow group of firm drawn from the same industries
» test whether the peer group perspective actually improvement upon assessment of relative value:
· first Examine the usefulness of book-to-market, cash flow-to-market, earnings-to-market ratios in explaining the cross-section of observed individual stock values
· Second we analyze the predictive power of an individual firm’s initial peer group valuation ranking for subsequent moves in its own ratio.
· Finally, we specifically highlight industry effects on portfolio design and returns to contrarians strategies
LITERATURE REVIEW
» lie and lie {2002} Apply the multiples-based firm valuation model in a peer group setting where industry peers are determined by SIC groupings
Interest lies in determining an individual firm’s initial value classification for its predictive power for future value ratios and stock return
» Dremen and Lufkin {1997} Analyze returns to contrarian strategies using relative-value rankings and compare them to returns from corresponding rankings based on aggregate market wide sorting.
DATA AND PEER GROUP CONSTRUCTION
» use monthly return, prices, and adjustment factors from the centre for the research in security prices monthly file
» Financial statement data come from the comp stat
» use firm’s market equity
» Kim and Ritter (1999) emphasize investment bankers use valuation via median peer group characteristic multiples for prospective IPO
USING CHARACTERISTIC MULTIPLE TO VALUE STOCK
» Lie and Lie (2002) by presuming that forming industry peer groups improves valuation precision
» industry based median ration approach significantly reduce stock pricing error compared aggregated median ratio approach
» using estimate from both equation that tell consistent story: currently observed stock prices cheapness or richness based on peer group ratio analysis tend to pesist over a one-year based.
DO RANKING PROCEDURE EXCESS RETURNS IN HEDGE PORTFOLIO
» the basic pattern found earlier tends to hold here as well: the industry-sorted peer group outperforms the aggregate approach.
RESULT FROM DECILE PORTFOLIO
» Our two key equal-weighted portfolios have been created by drawing the cheapest stocks and the richest stocks in each industry
“This hedge portfolio has no net exposure to industry effects”
CONCLUSSION
“Industry effects have material a material impact on portfolio risk”“ contrarian strategy portfolio performance is significantly improved in risk-adjusted term, when implemented in its industry-neut
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