The Relative Importance of Cash Flow News and Discount Rate News at Driving Stock Price Change

Mohsen Jafarian, Fauzias Mat Nor and Izani Ibrahim
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Mohsen Jafarian: Graduate School of Business, Universiti Kebangsaan Malaysia, Malaysia. Author-Email: jafarian@siswa.ukm.edu.my
Fauzias Mat Nor: Faculty of Business, Universiti Sains Islam Malaysia, Malaysia.
Izani Ibrahim: College of Business, Prince Sultan University, Saudi Arabia.

Capital Markets Review, 2018, vol. 26, issue 1, 56-72

Abstract: Which component is the main driver of stock price movement? Using vector-auto-regression-based (VAR) decomposition method, the literature finds that stock price movements are almost entirely derived by discount rate variation (DR) at the aggregate-level. Recently, extracting variations by the VAR system has been criticized. Employing implied cost of capital (ICC) approach with a sample of 809 companies over the period of 2000 to 2015, new findings demonstrate that cash flow variations (CF) are significant at aggregate-level, as well as portfolio-level. This study also finds that CF variation rises when the horizon extends from one-year ahead to fiveyear ahead. Running return decomposition at the portfolio-level shows that there are significant rising CF variations from small/large growth portfolios to small/large value portfolios. The results also show that DR demonstrates a good tracking power of the actual return for the period before 2005, but CF dominates at tracking after this period. Current research contributes to the literature by providing a fundamental explanation for the value premium.

Keywords: Cash flow news; discount rate news; return decomposition; value anomaly. (search for similar items in EconPapers)
JEL-codes: G10 G11 G12 (search for similar items in EconPapers)
Date: 2018
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