Keynes meets Merton: Examining risk and return relation based on fundamentals

• Main Authors: CHU, Liya, SHI, Wenyun, Jun TU
• Format: text
• Language: English
• Published: Institutional Knowledge at Singapore Management University 2020
• Subjects: Risk-Return Relation; Return Forecasting; Fundamental Predictors; Behavioral Bias; Finance; Finance and Financial Management
• Online Access: https://ink.library.smu.edu.sg/lkcsb_research/6798
• Institution: Singapore Management University

Although the intertemporal risk-return relation should be positive theoretically, it is often documented to be weak and even negative empirically. More accurate measures for return and risk have been proposed as remedies to address this discrepancy. We find that those remedies are fragile with mixed results since they do not control for the non-fundamental component of returns, which is the key that drives the weak or negative relation between risk and return. Upon controlling for the non-fundamental component, those remedies are no longer fragile and the positive risk and return relation can be restored robustly.