Three Essays on Investment-Based Asset Pricing

Abstract

The first chapter of my thesis is co-authored with my supervisors. We theoretically show that in a world with seasonal output prices and inventory building, firms optimally build up output inventories toward their high-price seasons. Heeding that strategy, they generate endogenous similar seasonality in their sales but inverse seasonalities in their operating leverage and expected returns. Crucially, higher inventory costs lower optimal inventory building, dampening the endogenous seasonalities. Supporting our theory, our empirical work reveals that seasonal firms build up inventories toward their high-sales seasons; high seasonal inventory holdings predict low stock returns; and those same holdings condition the seasonal-sales, same-calendar-month, momentum, and ROE anomalies. In the second chapter, I develop a real options model to explain average returns and return volatilities of stock portfolios sorted on the book-to-market ratio. While average returns increase monotonically across portfolios, return volatilities are U-shaped. My model combines business cycle variations with countercyclical economic uncertainty. Operating leverage and procyclical growth options make both value stocks and growth stocks risky, generating U-shaped return volatilities. Growth stocks additionally load on the negative variance risk premium which reduces their expected return. Using structural estimation, my model jointly fits average returns and return volatilities, thereby solving a long-standing problem in investment-based asset pricing. Further reduced-form evidence supports the model channels. In the third chapter, I use option-implied expected stock returns to offer empirical evidence supporting many predictions of investment-based asset pricing theories. These data offer market-based predictions for stock prices at the firm-level and for the aggregate market. I relate the positive pricing of beta, book-to-market, and investment and the negative pricing of momentum and profitability to neoclassical real options asset pricing models. Many further cross-sectional channels such as operating leverage, equity issuance, exposure to economic uncertainty, and labor fixed costs are also strongly supported when tested against expected stock returns. Time series predictive regressions offer further support for predictors derived from investment-based asset pricing, although the tests have low statistical power.

Date of Award	12 Oct 2023
Original language	English
Awarding Institution	The University of Manchester
Supervisor	Kevin Aretz (Main Supervisor)