Abstract

Several portfolio managers and stock analysts subscribe to the view that value (high book-to-market) investment strategies yield superior returns relative to glamour (low book-to-market) strategies. Empirical studies confirm that value investment strategies yield higher returns. However, the source of the superior performance of the value strategy and interpretation of the evidence remain controversial. In this paper we examine whether (i) investors systematically overestimate (underestimate) the future earnings performance of glamour (value) stocks, and (ii) value stocks are riskier than glamour stocks over the 1979-1998 period. Our results fail to support the view that the superior performance of value stocks is because investors make systematic errors in predicting future growth in earnings of out-of-favor stocks. Consistent with Fama and French (1992, 1996), our findings suggest that the return advantage of value investing strategies reflects compensation for bearing risk.

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