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A novel equity valuation and capital allocation model for use by long-term value-investors

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  • Rajaratnam, Myuran
  • Rajaratnam, Bala
  • Rajaratnam, Kanshukan

Abstract

We present a novel asset pricing model that captures the investment wisdom and stock-selection approach of the long-term value-investors Benjamin Graham and Warren Buffett. Taking a longer term view of business prospects and business risks, we explicitly consider the time period in which a business enjoys a competitive advantage over its peers as the central tenet of our model and capture the eventual demise of this competitive advantage in a probabilistic manner. Assuming that our investor has log utility, our model answers the question of capital allocation in a two-asset scenario. The model does not enforce the Efficient Market Hypothesis and is shown to explain some well-known empirical studies on stock returns.

Suggested Citation

  • Rajaratnam, Myuran & Rajaratnam, Bala & Rajaratnam, Kanshukan, 2014. "A novel equity valuation and capital allocation model for use by long-term value-investors," Journal of Banking & Finance, Elsevier, vol. 49(C), pages 483-494.
    • Handle: RePEc:eee:jbfina:v:49:y:2014:i:c:p:483-494
    DOI: 10.1016/j.jbankfin.2014.02.014
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    Cited by:

    1. Bala Rajaratnam & Kanshukan Rajaratnam & Myuran Rajaratnam, 2017. "A Theoretical Model for the Term Structure of Corporate Credit based on Competitive Advantage," European Financial Management, European Financial Management Association, vol. 23(2), pages 183-210, March.

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    More about this item

    Keywords

    Equities; Asset pricing; Asset returns; Value-investing; Capital allocation;
    All these keywords.

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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