Persistent and transitory components of firm characteristics: Implications for asset pricing

Fahiz Baba-Yara, Martijn Boons and Andrea Tamoni

Journal of Financial Economics, 2024, vol. 154, issue C

Abstract: We study the horizon dimension of cross-sectional return predictability using a model where characteristics contain both persistent and transitory components. We test the implications of this model for the average returns of popular characteristic-based trading strategies at short versus long horizons after portfolio formation. Our evidence supports the claim that the relative compensation for persistent and transitory components varies across characteristics, in both magnitude and sign. Benchmark factor models cannot explain the returns of portfolios sorted on characteristics where either the persistent or transitory component is dominant. Finally, we discuss implications for the long-term discount rates of firms.

Keywords: Characteristics; Persistent-transitory decomposition; Cross-section; Return predictability; Discount rates (search for similar items in EconPapers)
JEL-codes: G11 G12 (search for similar items in EconPapers)
Date: 2024
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Persistent link: https://EconPapers.repec.org/RePEc:eee:jfinec:v:154:y:2024:i:c:s0304405x2400031x

DOI: 10.1016/j.jfineco.2024.103808

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