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Fundamental Value and Market Value

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  • William C. Brainard
  • Matthew D. Shapiro
  • John B. Shoven

Abstract

Much of James Tobin's professional life has been devoted to studying the interrelationship between the goods and financial markets. His general equilibrium approaches stresses the interaction of the demand for financial assets with the decision to accumulate productive capital. His emphasis on q, the ratio of market value of assets to their replacement cost, has shaped how students of the aggregate economy understand the link between the stock market and fixed investment. This paper examines the empirical linkage between fundamental returns on physical corporate assets and market return on financial claims on those assets. It defines the fundamental return as real cash flow divided by replacement cost. It examines whether the market return on individual firms respond more to aggregate shocks to the fundamental return or to the market return itself. It then examines whether aggregate market risk or aggregate fundamental risk is priced. Although market risk is priced, the paper does find that fundamental risk is an important factor in explaining risk premia.

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File URL: http://www.nber.org/papers/w3452.pdf
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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 3452.

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Date of creation: Sep 1990
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Publication status: published as Money, Macroeconomics, and Economics Policy: Essays in Honor of James Tobin , W.C. Brainard, W.D. Nordhaus, and H.W. Watts, eds. Cambridge, M.I.T. Press, 1991.
Handle: RePEc:nbr:nberwo:3452

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  1. Fama, Eugene F & MacBeth, James D, 1973. "Risk, Return, and Equilibrium: Empirical Tests," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 81(3), pages 607-36, May-June.
  2. Robert Stambaugh, . "On the Exclusion of Assets from Tests of the Two-Parameter Model: A Sensitivity Analysis," Rodney L. White Center for Financial Research Working Papers, Wharton School Rodney L. White Center for Financial Research 13-81, Wharton School Rodney L. White Center for Financial Research.
  3. Matthew D. Shapiro & N. Gregory Mankiw, 1985. "Risk and Return: Consumption Beta Versus Market Beta," Cowles Foundation Discussion Papers, Cowles Foundation for Research in Economics, Yale University 738, Cowles Foundation for Research in Economics, Yale University.
  4. William C. Brainard & John B. Shoven & Laurence Weiss, 1980. "The Financial Valuation of the Return to Capital," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 11(2), pages 453-512.
  5. William C. Brainard & James Tobin, 1968. "Pitfalls in Financial Model-Building," Cowles Foundation Discussion Papers, Cowles Foundation for Research in Economics, Yale University 244, Cowles Foundation for Research in Economics, Yale University.
  6. McElroy, Marjorie B & Burmeister, Edwin, 1988. "Arbitrage Pricing Theory as a Restricted Nonlinear Multivariate Regression Model: Iterated Nonlinear Seemingly Unrelated Regression Estimates," Journal of Business & Economic Statistics, American Statistical Association, American Statistical Association, vol. 6(1), pages 29-42, January.
  7. Brainard, William C. & Shoven, John B., 1980. "The financial valuation of the return to capital," Proceedings, Federal Reserve Bank of San Francisco, Federal Reserve Bank of San Francisco, issue 4, pages 43-104.
  8. Ross, Stephen A., 1976. "The arbitrage theory of capital asset pricing," Journal of Economic Theory, Elsevier, Elsevier, vol. 13(3), pages 341-360, December.
  9. Gibbons, Michael R., 1982. "Multivariate tests of financial models : A new approach," Journal of Financial Economics, Elsevier, Elsevier, vol. 10(1), pages 3-27, March.
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Cited by:
  1. John Y. Campbell & Tuomo Vuolteenaho, 2003. "Bad Beta, Good Beta," NBER Working Papers 9509, National Bureau of Economic Research, Inc.
  2. Randolph B. Cohen & Christopher Polk & Tuomo Vuolteenaho, 2009. "The Price Is (Almost) Right," Journal of Finance, American Finance Association, American Finance Association, vol. 64(6), pages 2739-2782, December.
  3. Krzysztof Wasniewski, 2011. "Corporate Strategies – The Institutional Approach," Journal of Advanced Research in Management, ASERS Publishing, vol. 0(1), pages 46-65, June.
  4. John M. Abowd, 1989. "Does Performance-Based Managerial Compensation Affect Subsequent Corporate Performance?," NBER Working Papers 3149, National Bureau of Economic Research, Inc.

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