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Volume 6, No. 1,
April 2007
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Expected
P/E, Residual P/E, and Stock Return Reversal:
Time-Varying Fundamentals or Investor Overreaction?
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Ying Huang
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School of Business, Manhattan College, U.S.A.
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Chia-Hui Tsai
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First Taisec Capital Management, Taiwan
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Carl R. Chen*
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Department of Economics and Finance, University
of Dayton, U.S.A.
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Abstract
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We
decompose P/E ratios into a fundamental component and a
residual component that cannot be explained by the firm or
economic fundamentals. Purging the fundamental component
from observed P/E ratios, we find that portfolios based on
residual P/E ratios exhibit performance reversal only in
overbid glamour stocks; hence over-optimism is more
prevalent than over-pessimism.
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Key words
:
P/E ratios; overreaction; market
efficiency
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JEL classification
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G30
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