Date of Award
Spring 2017
Degree Name
Bachelor of Science (BS)
Abstract
Return on equity (ROE) attempts to measure a company’s efficiency and profitability. A company that can, relative to its peers, generate more net income per dollar of equity should then, all else equal, also be able to achieve a superior valuation because a stock is worth the present value of its future cash flows which net income indirectly helps to drive. I would like to investigate the hypothesis that firms with higher ROE’s will, on aggregate, outperform in the stock market because a higher ROE should indicate higher efficiency and profitability. Phrased differently, I will investigate whether or not ROE is a useful metric for predicting future stock returns. As such, the independent variable will be return on equity with stock performance as the dependent variable. There will be controls for company size and industry classification. While researchers have thoroughly studied many aspects of asset-pricing research, I would like to examine ROE in a more specific setting. Namely, researching if ROE is useful for differentiating companies within an industry. Since ROE varies dramatically by industry classification, relying on it to form a portfolio will likely lead to over-allocation in certain sectors. In regards to the research method, securities will be sorted by industry and then portfolios will be created based on the historical ROE performances of the securities. Then, the returns of the various portfolios will be compared in order to determine whether or not ROE has been a useful metric for performance. Therefore, the usefulness of ROE for investors as a stock-screening tool will become clearer.
Recommended Citation
Skaras, Lucas, "Return on Equity and Stock Returns" (2017). Gabelli School of Business Honors Thesis Collection. 130.
https://research.library.fordham.edu/gabelli_thesis/130
