Corporate financing activities, fundamentals to price ratios and the cross section of stock returns

Abstract

Purpose

The purpose of the paper is to investigate the relation between the value/growth anomaly and the external financing anomaly by considering an expanded value/growth indicator: free cash flow yield (free cash flows scaled by price).

Design/methodology/approach

The paper utilizes portfolio‐level tests and cross‐sectional regressions.

Findings

In line with the literature on contrarian portfolios, this paper finds that firms with low (high) free cash flow yield are experiencing low (high) returns. However, only when an investor buys (sells) stocks of firms with high (low) free cash flow yield that distribute (raise) capital, his zero‐cost portfolio is significant. These findings are robust, irrespective of the financing vehicle (equity or debt). Overall, their evidence suggests that distinctions between the value/growth anomaly and the external financing anomaly partially disappear, if one is willing to employ free cash flow yield as a proxy of the former anomaly.

Originality/value

The paper enhances one's understanding of the relation between asset pricing anomalies.

Citation

Papanastasopoulos, G., Thomakos, D. and Wang, T. (2013), "Corporate financing activities, fundamentals to price ratios and the cross section of stock returns", Journal of Economic Studies, Vol. 40 No. 4, pp. 493-514. https://doi.org/10.1108/JES-08-2011-0097