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A General Affine Earnings Valuation Model

Author

Listed:
  • Andrew Ang

    (Columbia University and NBER)

  • Jun Liu

    (UCLA)

Abstract

We introduce a methodology, with two applications, that incorporates stochastic interest rates, heteroskedasticity and risk aversion into the residual income model. In the first application, goodwill is an affine (constant plus linear term) function where the constant and linear coefficients are time-varying. Homoskedastic risk gives rise to a constant risk premium, while heteroskedastic risk gives rise to linear state-dependent risk premiums. In the second application, we present a class of models where a non-linear function for the price-to-book ratio can be derived. We show how interest rates, risk, profitability and growth affect the price-to-book ratio.

Suggested Citation

  • Andrew Ang & Jun Liu, 2001. "A General Affine Earnings Valuation Model," Review of Accounting Studies, Springer, vol. 6(4), pages 397-425, December.
    • Handle: RePEc:spr:reaccs:v:6:y:2001:i:4:d:10.1023_a:1012497814339
    DOI: 10.1023/A:1012497814339
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    References listed on IDEAS

    as
    1. Bakshi, Gurdip & Chen, Zhiwu, 2005. "Stock valuation in dynamic economies," Journal of Financial Markets, Elsevier, vol. 8(2), pages 111-151, May.
    2. Fama, Eugene F & French, Kenneth R, 2000. "Forecasting Profitability and Earnings," The Journal of Business, University of Chicago Press, vol. 73(2), pages 161-175, April.
    3. Ou, Ja & Penman, Sh, 1989. "Accounting Measurement, Price Earnings Ratio, And The Information-Content Of Security Prices," Journal of Accounting Research, John Wiley & Sons, Ltd., vol. 27, pages 111-144.
    4. Lucas, Robert E, Jr, 1978. "Asset Prices in an Exchange Economy," Econometrica, Econometric Society, vol. 46(6), pages 1429-1445, November.
    5. James A. Ohlson, 1990. "A Synthesis of security valuation theory and the role of dividends, cash flows, and earnings," Contemporary Accounting Research, John Wiley & Sons, vol. 6(2), pages 648-676, March.
    6. Zhiwu Chen & Gurdip Bakshi, 2001. "Stock Valuation in Dynamic Economics," Yale School of Management Working Papers ysm198, Yale School of Management.
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    Cited by:

    1. Matthew R. Lyle & Jeffrey L. Callen & Robert J. Elliott, 2013. "Dynamic risk, accounting-based valuation and firm fundamentals," Review of Accounting Studies, Springer, vol. 18(4), pages 899-929, December.
    2. Stephen Penman & Francesco Reggiani, 2013. "Returns to buying earnings and book value: accounting for growth and risk," Review of Accounting Studies, Springer, vol. 18(4), pages 1021-1049, December.

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