IDEAS home Printed from https://ideas.repec.org/
MyIDEAS: Login to save this paper or follow this series

Operating Leverage,Stock Market Cyclicality,and the Cross-Section of Returns

  • François Gourio

    ()

    (Department of Economics, Boston University)

I use a putty-clay technology to explain several asset market facts. The key mechanism is as follows: a one percent increase in revenues leads to a more-than-one percent increase in profits, since labor costs don’t move one-for-one. This amplification is greater for plants with low productivity for which the average profit margin (revenue minus costs) is small. This “operating leverage” effect implies that low productivity plants benefit disproportionately from business cycle booms. These plants have thus higher systematic risk and higher average returns. This model can help explain the empirical findings of Fama and French (1992), and more generally the sources of differences in market betas across firms. I obtain supporting evidence for the mechanism using firm- and industry-level data. The aggregate effect follows from trend growth: low-productivity plants outnumber high-productivity plants, making the aggregate stock market procyclical. I examine these aggregate implications and find that this model generates a volatile stock market return that predicts the business cycle.

To our knowledge, this item is not available for download. To find whether it is available, there are three options:
1. Check below under "Related research" whether another version of this item is available online.
2. Check on the provider's web page whether it is in fact available.
3. Perform a search for a similarly titled item that would be available.

Paper provided by Boston University - Department of Economics in its series Boston University - Department of Economics - Working Papers Series with number WP2005-002.

as
in new window

Length: 48 pages
Date of creation: Jan 2005
Date of revision:
Handle: RePEc:bos:wpaper:wp2005-002
Contact details of provider: Postal: 270 Bay State Road, Boston, MA 02215
Phone: 617-353-4389
Fax: 617-353-4449
Web page: http://www.bu.edu/econ/

More information through EDIRC

References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:

as in new window
  1. Robert E. Hall, 2001. "The Stock Market and Capital Accumulation," American Economic Review, American Economic Association, vol. 91(5), pages 1185-1202, December.
  2. Patrick J. Kehoe & Andrew Atkeson, 1999. "Models of Energy Use: Putty-Putty versus Putty-Clay," American Economic Review, American Economic Association, vol. 89(4), pages 1028-1043, September.
  3. Monika Piazzesi & Martin Schneider & Selale Tuzel, 2004. "Housing, Consumption and Asset Pricing," 2004 Meeting Papers 357c, Society for Economic Dynamics.
  4. Bresnahan, Timothy F. & Raff, Daniel M. G., 1991. "Intra-Industry Heterogeneity and the Great Depression: The American Motor Vehicles Industry, 1929–1935," The Journal of Economic History, Cambridge University Press, vol. 51(02), pages 317-331, June.
  5. Simon Gilchrist & John C. Williams, 2000. "Putty-Clay and Investment: A Business Cycle Analysis," Journal of Political Economy, University of Chicago Press, vol. 108(5), pages 928-960, October.
  6. Lawrence J. Christiano & Michele Boldrin & Jonas D. M. Fisher, 2001. "Habit Persistence, Asset Returns, and the Business Cycle," American Economic Review, American Economic Association, vol. 91(1), pages 149-166, March.
  7. Jonathan A. Parker & Christian Julliard, 2004. "Consumption Risk and the Cross-Section of Expected Returns," Working Papers 138, Princeton University, Woodrow Wilson School of Public and International Affairs, Discussion Papers in Economics..
  8. John Y. Campbell & Tuomo Vuolteenaho, 2003. "Bad Beta, Good Beta," Harvard Institute of Economic Research Working Papers 2016, Harvard - Institute of Economic Research.
  9. Gomme, P. & Greenwood, J., 1993. "On the Cyclical Allocation of Risk," RCER Working Papers 355, University of Rochester - Center for Economic Research (RCER).
  10. James H. Stock & Mark W. Watson, 2001. "Forecasting output and inflation: the role of asset prices," Proceedings, Federal Reserve Bank of San Francisco, issue Mar.
  11. Greenwood, J. & Hercowitz, Z. & Krusell, P., 1998. "The Role of Investment-Specific Technological Change in the Business Cycle," RCER Working Papers 449, University of Rochester - Center for Economic Research (RCER).
  12. Jonas D. M. Fisher, 2002. "Technology shocks matter," Working Paper Series WP-02-14, Federal Reserve Bank of Chicago.
  13. Thomas Tallarini, . "Risk-Sensitive Real Business Cycles," GSIA Working Papers 1997-35, Carnegie Mellon University, Tepper School of Business.
  14. Fama, Eugene F & French, Kenneth R, 1992. " The Cross-Section of Expected Stock Returns," Journal of Finance, American Finance Association, vol. 47(2), pages 427-65, June.
  15. Antràs Pol, 2004. "Is the U.S. Aggregate Production Function Cobb-Douglas? New Estimates of the Elasticity of Substitution," The B.E. Journal of Macroeconomics, De Gruyter, vol. 4(1), pages 1-36, April.
  16. Fernando Alvarez & Urban J. Jermann, 2005. "Using Asset Prices to Measure the Persistence of the Marginal Utility of Wealth," Econometrica, Econometric Society, vol. 73(6), pages 1977-2016, November.
  17. Baily, Martin Neil & Bartelsman, Eric J. & Haltiwanger, John, 1995. "Labor productivity: structural change and cyclical dynamics," Serie Research Memoranda 0050, VU University Amsterdam, Faculty of Economics, Business Administration and Econometrics.
  18. Pakos, Michal, 2004. "Asset Pricing with Durable Goods and Nonhomothetic Preferences," MPRA Paper 26167, University Library of Munich, Germany.
  19. Stanley Fischer & Robert C. Merton, 1984. "Macroeconomics and Finance: The Role of the Stock Market," NBER Working Papers 1291, National Bureau of Economic Research, Inc.
  20. Greenwood, Jeremy & Hercowitz, Zvi & Krusell, Per, 1997. "Long-Run Implications of Investment-Specific Technological Change," American Economic Review, American Economic Association, vol. 87(3), pages 342-62, June.
  21. Murray Carlson & Adlai Fisher & Ron Giammarino, 2004. "Corporate Investment and Asset Price Dynamics: Implications for the Cross-section of Returns," Journal of Finance, American Finance Association, vol. 59(6), pages 2577-2603, December.
  22. Mark Doms & Eric J. Bartelsman, 2000. "Understanding Productivity: Lessons from Longitudinal Microdata," Journal of Economic Literature, American Economic Association, vol. 38(3), pages 569-594, September.
  23. John H. Cochrane, 1988. "Production Based Asset Pricing," NBER Working Papers 2776, National Bureau of Economic Research, Inc.
  24. Boyan Jovanovic & Peter L. Rousseau, 2002. "Moore's Law and Learning-By-Doing," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 5(2), pages 346-375, April.
  25. Lawrence J. Christiano & Jonas D. M. Fisher, 2003. "Stock Market and Investment Goods Prices: Implications for Macroeconomics," NBER Working Papers 10031, National Bureau of Economic Research, Inc.
  26. Martin Lettau & Sydney Ludvigson, 2001. "Resurrecting the (C)CAPM: A Cross-Sectional Test When Risk Premia Are Time-Varying," Journal of Political Economy, University of Chicago Press, vol. 109(6), pages 1238-1287, December.
  27. Lu Zhang, 2005. "The Value Premium," Journal of Finance, American Finance Association, vol. 60(1), pages 67-103, 02.
  28. Fama, Eugene F & French, Kenneth R, 1995. " Size and Book-to-Market Factors in Earnings and Returns," Journal of Finance, American Finance Association, vol. 50(1), pages 131-55, March.
  29. Gomes, Joao F & Kogan, Leonid & Zhang, Lu, 2002. "Equilibrium Cross-Section of Returns," CEPR Discussion Papers 3482, C.E.P.R. Discussion Papers.
  30. Hanno N. Lustig & Stijn G. Van Nieuwerburgh, 2005. "Housing Collateral, Consumption Insurance, and Risk Premia: An Empirical Perspective," Journal of Finance, American Finance Association, vol. 60(3), pages 1167-1219, 06.
  31. Chad Syverson, 2003. "Product Substitutability and Productivity Dispersion," NBER Working Papers 10049, National Bureau of Economic Research, Inc.
  32. Cochrane, John H, 1991. " Production-Based Asset Pricing and the Link between Stock Returns and Economic Fluctuations," Journal of Finance, American Finance Association, vol. 46(1), pages 209-37, March.
  33. Caballero, Ricardo J & Hammour, Mohamad L, 1994. "The Cleansing Effect of Recessions," American Economic Review, American Economic Association, vol. 84(5), pages 1350-68, December.
  34. Ravi Bansal & Robert F. Dittmar & Christian T. Lundblad, 2005. "Consumption, Dividends, and the Cross Section of Equity Returns," Journal of Finance, American Finance Association, vol. 60(4), pages 1639-1672, 08.
  35. Motohiro Yogo, 2006. "A Consumption-Based Explanation of Expected Stock Returns," Journal of Finance, American Finance Association, vol. 61(2), pages 539-580, 04.
  36. Gary D. Hansen & Edward C. Prescott, 2005. "Capacity constraints, asymmetries, and the business cycle," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 8(4), pages 850-865, October.
  37. Perfect, Steven B. & Wiles, Kenneth W., 1994. "Alternative constructions of Tobin's q: An empirical comparison," Journal of Empirical Finance, Elsevier, vol. 1(3-4), pages 313-341, July.
  38. Fama, Eugene F. & French, Kenneth R., 1997. "Industry costs of equity," Journal of Financial Economics, Elsevier, vol. 43(2), pages 153-193, February.
  39. Chao Wei, 2003. "Energy, the Stock Market, and the Putty-Clay Investment Model," American Economic Review, American Economic Association, vol. 93(1), pages 311-323, March.
  40. Fama, Eugene F & French, Kenneth R, 1996. " Multifactor Explanations of Asset Pricing Anomalies," Journal of Finance, American Finance Association, vol. 51(1), pages 55-84, March.
  41. Douglas W Dwyer, 2001. "Plant-Level Productivity and the Market Value of a Firm," Working Papers 01-03, Center for Economic Studies, U.S. Census Bureau.
  42. Hayashi, Fumio, 1982. "Tobin's Marginal q and Average q: A Neoclassical Interpretation," Econometrica, Econometric Society, vol. 50(1), pages 213-24, January.
  43. Cogley, Timothy & Nason, James M, 1995. "Output Dynamics in Real-Business-Cycle Models," American Economic Review, American Economic Association, vol. 85(3), pages 492-511, June.
  44. Jermann, Urban J., 1998. "Asset pricing in production economies," Journal of Monetary Economics, Elsevier, vol. 41(2), pages 257-275, April.
Full references (including those not matched with items on IDEAS)

This item is not listed on Wikipedia, on a reading list or among the top items on IDEAS.

When requesting a correction, please mention this item's handle: RePEc:bos:wpaper:wp2005-002. See general information about how to correct material in RePEc.

For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Gillian Gurish)

If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

If references are entirely missing, you can add them using this form.

If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.

If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.

Please note that corrections may take a couple of weeks to filter through the various RePEc services.

This information is provided to you by IDEAS at the Research Division of the Federal Reserve Bank of St. Louis using RePEc data.