Earnings persistence and the value premium

Abstract

For many years, academics have argued that firms with high book-to-market ratios yield higher returns than firms with low book-to-market ratios (i.e. the value premium). While there is agreement that a book- to-market based value strategy produces superior returns, academics have neglected to research whether the value premium is a function of other rm characteristics. In this dissertation it is shown that the book-to- market ratio is a function of earnings persistence. Evidence is provided that the value premium in low earnings persistence portfolios is higher because investors misjudge earnings persistence and not because this value strategy is fundamentally riskier.