Abstract
We offer a new three-factor asset-pricing model for country equity returns. The model accommodates a broad set of country-level cross-sectional anomalies better than the popular CAPM, three-factor model, and four-factor model. Furthermore, it fully explains the performance of other models’ factors, while the standard models are not able to explain the alphas of their factors. The new model relies on the country-level portfolios formed based on the EBITDA-to-EV ratio and on skewness-enhanced momentum. These factor portfolios provide reliable and robust sources of return, and their performance is consistent with the behavioral finance mispricing interpretation. This study is based on the accounting and price data from 78 country equity markets in 1995–2015.
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Acknowledgment
This study is a part of the project no. 2014/15/D/HS4/01235 financed by the National Science Centre of Poland.
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Appendix
Appendix
Anomalies examined in the study
No. | Abbr. | Description | Stock-level key reference papers | Key references for evidence on country-level parallels | Calculation details |
|---|---|---|---|---|---|
Group 1: Momentum | |||||
1 | StMom | Stocks of firms that outperformed over the past 6 months continue to outperform over the next month. | Jegadeesh and Titman (1993) | Asness et al. (1997), Bhojraj and Swaminathan (2006), Balvers and Wu (2006) | We rank markets based on their cumulative return in months t − 1 to t − 6. We go long (short) in the markets with the high (low) return. |
2 | IntMom | Intermediate returns (i.e., in months t − 12 to t − 7) cause momentum. | Novy-Marx (2012) | Zaremba (2016a) | We rank markets based on their cumulative return in months t − 12 to t − 7. We go long (short) in the markets with the high (low) return. |
3 | MomSmall | Momentum is stronger among small firms. | Jegadeesh and Titman (1993), Hong et al. (2000), Zhang (2006) | Zaremba (2016a) | First, we sort markets by size as characterized in anomaly (4) and determine the median. We go long (short) in the markets with the high (low) return. |
4 | MA200 | The ratio of current price to the 20-month moving average positively predicts returns. | Zaremba (2016a) | We sort markets by the relationship of price in month t − 1 to the mean price in months t − 20 to t − 1. We go long (short) in the markets with high (low) ratios. | |
5 | Ma250 | The ratio of current price to the 24-month moving average positively predicts returns. | Zaremba (2016a) | We sort markets by the relationship of price in month t − 1 to the mean price in months t − 24 to t − 1. We go long (short) in the markets with high (low) ratios. | |
Group 2: Quality | |||||
6 | EqDebt | Firms with low leverage underperform companies with high leverage. | George and Hwang (2010), Caskey et al. (2012), van de Maele and Jallet (2015) | Zaremba (2016a) | We sort markets by the ratio of common equity to debt in month t − 4. We go long (short) in the markets with high (low) ratios. |
7 | EBDebt | Firms with high EBITDA-to-debt ratios underperform companies with low EBITDA-to-debt ratios. | George and Hwang (2010), Caskey et al. (2012), van de Maele and Jallet (2015) | Zaremba (2016a) | We sort markets by the ratio of trailing four-quarter EBITDA-to-debt in month t − 4. We go long (short) in the markets with high (low) ratios. |
8 | ROE | Firms with high return on equity outperform firms with low return on equity. | Haugen and Baker (1996), Chen et al. (2011), Wang and Yu (2013) | Garff (2014) | We sort markets by the ratio of trailing four-quarter net profit to common equity in month t − 4. We go long (short) in the markets with high (low) ratios. |
Group 3: Skewness | |||||
9 | Skew | Firms with low skewness of their return distributions outperform firms with high skewness. | Harvey (2000) | We rank the markets by the skewness of their monthly return distributions in months t − 24 to t − 1. We go long (short) in the markets with low (high) skewness. | |
10 | MaxRetMom | Stocks with a high maximum daily return in the previous month and low total return in the previous year underperform stocks with the low maximum daily return in the previous month and high total return in the past year. | Jacobs et al. (2015) | Zaremba (2016a) | We form portfolios based on an average position in two rankings: On the maximum daily return in month t − 1 and on cumulative return in months t − 12 to t − 2. We go long (short) in the markets with high (low) positions in the ranking, i.e., low (high) skewness, and low (high) maximum daily return. |
Group 4: Value | |||||
11 | EP | Stocks of firms with low price-to-earnings ratios outperform firms with high price-to-earnings ratios. | Basu (1983) | Macedo (1995), Kim (2012), Angelidis and Tessaromatis (2014) | We rank the markets by their ratios of trailing four-quarter net profit to total stock market capitalization in month t − 4. We go long (short) in the markets with high (low) ratios. |
12 | DY | Stocks of firms with high dividend yields outperform firms with low dividend yields. | Litzenberg and Ramaswamy (1979) | We rank the markets by their dividend yield, calculated as the sum of all of the dividend paid in months t − 12 to t − 1, to the total stock market capitalization in month t − 1. We go long (short) in the markets with high (low) yield. | |
13 | CFP | Stocks of firms with low price-to-cash flow ratios outperform firms with high price-to-cash flow ratios. | Lakonishok et al. (1994) | We rank the markets by their ratios of trailing four-quarter cash flow from operations to total stock market capitalization in month t − 4. We go long (short) in the markets with high (low) ratios. | |
14 | EBEV | Firms with low EV-to-EBITDA ratios outperform firms with high EV-to-EBITDA ratios. | Loughran and Wellman (2012) | Zaremba (2016a) | We rank the markets by their ratios of trailing four-quarter EBITDA to the enterprise value (EV) of a stock market in month t − 4. We go long in (short) the markets with high (low) ratios. |
15 | EBP | Firms with low price-to-EBITDA ratios outperform firms with high price-to-EBITDA ratios. | Mesale (2008) | Zaremba (2016a) | We rank the markets by their ratios of trailing four-quarter EBITDA to total stock market capitalization in month t − 4. We go long (short) in the markets with high (low) ratios. |
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Zaremba, A. (2020). A Factor Model for Country-Level Equity Returns. In: Bilgin, M., Danis, H., Karabulut, G., Gözgor, G. (eds) Eurasian Economic Perspectives. Eurasian Studies in Business and Economics, vol 12/1. Springer, Cham. https://doi.org/10.1007/978-3-030-35040-6_11
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