Changes in Financial Variables and Altman’s Z Score on Stock Price: Consideration of Firm Size and Market Risk

Abstract

The valuation of common stock can be approached in several ways. Some models, known as dividend valuation models, rely solely on expected dividends and other models rely on longrun historical relationships between stock prices, financial variables, and market risk factors. This study, through correlation and regression analyses, identifies the most relevant variables affecting stock price changes of the Standard & Poor’s 500 Index firms. Moreover, by applyingthe Altman financial stress model, the significance of changes in financial stress measures on stock prices is tested. In addition, the study investigates whether the effects of financial factors on stock prices depend on company size. Also, through mean and variance analysis, the equality of means and variances of larger and smaller firms exposed to market risks are examined. Among all financial variables considered, the changes in operating income and the financialstress measure are the most relevant factors affecting stock price variations. The results showed no strong positive relationship between changes in stock prices and dividends. The tests of equality of means and variances failed to support the notion that correlations between changes in stock prices and operating income, financial leverage, and total assets for small and large size firms differ. However, it rejected the hypothesis that variances of market risk of smalarge firms are equal.