Case Closed

  • Robert A. Haugen
  • Nardin L. Baker


This chapter conclusively proves that the stock market is inefficient. We find the 12 most important determinants of stock returns in the 1963–2007 period. Our results indicate dramatic, consistent negative payoffs to measures of risk and recent stock performance and positive payoffs to measures of current profitability, cheapness, and momentum in stock return. We split the entire time period into five subperiods, and find that the great majority of these important determinants for the entire period are also highly significant in each subperiod, with all determinants having the same signs as in the total period. Our comprehensive, expected return factor model successfully predicts the future return, out of sample, in each of the 45 years. Surprisingly, 10% of stocks with highest expected return, in aggregate, are at low risk and are highly profitable, with positive trends in profitability. They are cheaper compared to current earnings, cash flow, sales, and dividends. They have relatively large market capitalization and positive price momentum over the previous year. The 10% with lowest expected return have exactly the opposite profile. The highest expected return stocks are, collectively, highly attractive; the lowest expected return stocks are very scary – results are completely inconsistent with the efficient market hypothesis. Moreover, the nature of both profiles remains consistent in each of the subperiods. We also show, as we did in our 1996 study, that a Markowitz optimized portfolio management strategy using the expected return factor model is profitable even after allowing for trading costs. In the opinion of the authors, this chapter provides incontrovertible evidence that the US stock market has been highly inefficient over the last 45 years.


Risk Aversion Stock Return Trading Cost Implied Volatility Stock Index 
These keywords were added by machine and not by the authors. This process is experimental and the keywords may be updated as the learning algorithm improves.


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Copyright information

© Springer Science+Business Media, LLC 2010

Authors and Affiliations

  1. 1.Haugen Custom Financial SystemsDurangoUSA
  2. 2.Chief Investment Officer for Quantitative Equity ManagementIrvineUSA

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