The Devil in HML’s Details

Abstract

In this article the authors challenge the standard method for measuring value that is used in academic work on factor pricing. The standard method uses lagged book data to calculate book-to-price (B/P) at portfolio formation. It aligns price data using the same lag, ignoring recent price movements. The authors propose two simple alternatives that use more timely price data; they then construct portfolios based on the different measures for a U.S. sample (from 1950 to 2011) and a global sample (from 1983 to 2011). They show that B/P ratios based on more timely prices better forecast true, unobservable B/P ratios at fiscal year-end. Value portfolios based on the timeliest measures earn statistically significant alphas, ranging between 305 and 378 basis points per year, versus the standard methods.