Seminar

Putting the Price in Asset Pricing

Thummim Cho (London School of Economics)

March 25, 2022, 10:00–11:30

Toulouse

Room Auditorium 4

Finance Seminar

Abstract

We propose a novel way to study asset prices based on price distortions rather than abnormal returns. We derive an exact identity linking current mispricing to subsequent returns, generating a price-level analogue to the fundamental asset pricing equation, E[MR^e] = 0, used to study returns. Our empirical test reveals that the CAPM describes the cross-section of prices better than it describes expected short-horizon returns. Despite the improvement, significant mispricing remains. An interaction of book-to-market and quality provides a parsimonious model of CAPM mispricing that both long-term buy-and-hold investors and researchers disciplining models from the price perspective should prioritize.

JEL codes

  • G12: Asset Pricing • Trading Volume • Bond Interest Rates
  • G14: Information and Market Efficiency • Event Studies • Insider Trading
  • G32: Financing Policy • Financial Risk and Risk Management • Capital and Ownership Structure • Value of Firms • Goodwill