428_lecture16_valuestrategy_sentiment_S09

428_lecture16_valuestrategy_sentiment_S09 - Value Strategy...

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Value Strategy and Investors’ Sentiment Valuation Lecture 16 Some materials from Lee (2003), Lee (2001), Lee et al (2005). See reference list
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Midterm Case Case is due on 3/31. Homework is still due on 3/26.
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Review: Pro Forma Statements What are Pro-forma statements? Why do we prepare Pro-forma Statements? How to prepare Pro-forma Statements?
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Outline The limit of Valuation in Stock Investing The use of valuation in investing Contrarian investing, value investing The limit of valuation Briefly investors’ sentiments
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EMH: The Traditional View If we define the intrinsic value of a firm as the present value of its expected future payoffs, conditional on information set ( δ ): + = + = 1 ) 1 ( ) | ( i i i t t t r D E V δ Then, operationally, the EMH is often interpreted to mean price reflects a stock's intrinsic value ) ( , t V P t t 2200 =
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The Noise Trader Model: Shiller (1984): In equilibrium, price is: In equilibrium, price is: + + = + + + + = 0 1 ) 1 ( ) ( ) ( k k k t t k t t t Y E D E P φ ρ Fundamental value Noise trader demand Arbitrage costs As  As  φ φ      zero, we have the EMH as a special case  zero, we have the EMH as a special case As  As  φ φ      infinity, noise traders determine the price  infinity, noise traders determine the price
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Example of noise traders… The extended Dong’s family My My brother in law My wife
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Implications of the Model + + = + + + + = 0 1 ) 1 ( ) ( ) ( k k k t t k t t t Y E D E P φ ρ Fundamental value Investor Sentiment Price is a weighted average of a stock’s fundamental value and  noise trader demand (as long as arbitrage involves cost, price will  not typically equal value) Fundamental analysis (I.e., valuation and cash flow projection) is  only one component of investing in stocks Rational investors (smart traders) need to consider "fads" and  "fashions", as well as "fundamentals”.  This harkens back to the  Keynesian idea of the stock market as a beauty contest. The time-series behavior of Y t  matters.  Is it mean-reverting?  If so,  how quickly?
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How might we measure investor sentiment? A. Focus on fundamental value Estimate the present value of future cash flows for a firm (V), and compare it to price. The difference is a measure of investor sentiment. B. Focus on noise trader demand Look for sentiment indicators that help to predict the direction of noise trader demand (Y t ) + + = + + + + = 0 1 ) 1 ( ) ( ) ( k k k t t k t t t Y E D E P φ ρ Fundamental value Investor Sentiment
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Some Valuation Studies Frankel and Lee (JAE, 1998) Use the residual-income model (RIM) to develop a
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This note was uploaded on 09/23/2009 for the course AEM 4280 taught by Professor Ng,d. during the Spring '08 term at Cornell University (Engineering School).

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428_lecture16_valuestrategy_sentiment_S09 - Value Strategy...

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