Non-Dividend Paying Stocks and the Negative Value Premium

Discussant

Sheng-Tang Huang

Summary of the paper 1. Because of constraints that restrict external

financing, firms finance growth investments internally, but only when profitability permits. These investments increase risk.

2. Consistent with this model, the authors find high returns for high profitability, high market/book, growth-stocks. High return combined with high market/book is a negative value premium for non-dividend paying companies.

3. When the authors benchmark the returns of portfolios formed by ranking forward ROE and return volatility against a conditional asset-pricing model, we find negative abnormal returns for low risk value-stocks and positive abnormal returns for high risk growth-stocks.

4. While rational financial-economic analysis guides our empirical investigation, the authors cannot rule out market-inefficiency as an explanation for abnormal returns. Either equity-markets over-price low-risk stocks and under-price high-risk stocks or current asset-pricing models do not fully capture the negative value-premium for non-dividend paying companies.

Comments

This is a serious paper, and it provides interesting results to the literature.

Is value premium always positive? NO It shows that, inconsistent with the

conventional wisdoms, the value premium is negative for non-dividend paying stocks.

This is another idea to explain the value premium, except for risk, overreaction, and data mining.

A minor suggestion: Problem of equity valuation.

The authors follow the following paper to value equity.

G.W. Blazenko, and A.D. Pavlov. “Investment Timing for Dynamic Business Expansion,” Financial Management 38(6), (2009), pp. 837-860. p.841

However,

Liu (2009, JBF) shows that ROE is not correctly measurable. He suggests that the observable cost of equity only reflects equity normal profit rather than equity economic profit.

Therefore, the forward ROE used in this paper might be a misleading measure.

Another measure of forward ROE should be used for robustness purpose.

Reference

G.W. Blazenko, and A.D. Pavlov. “Investment Timing for Dynamic Business Expansion,” Financial Management 38(6), (2009), pp. 837-860.

Liu, “The slicing approach to valuing tax shield,” Journal of Banking & Finance33, (2009), pp.1069-1078.

Thank you for your listening.