RECENT PAPERS ,  have highlighted the central importance to many problems in finance of correctly specifying the stochastic process underlying observed returns on financial assets. Such problems include the testing of the capital asset pricing model, the evaluation of investment performance, and the selection of portfolios of risky assets. This current paper presents some new empirical results which besides being interesting in their own right, may prove useful in formulating specific return generating functions for common stocks. The paper first shows that the price per share of a stock appears to be related to future returns even if risk as often measured is held constant. Price seems to be acting in part as an indicator of changes in the levels of risk for individual securities. In addition, there is some weak evidence that price may be a surrogate for transaction costs in the thirties. At least one reason why price may indicate a change in future beta is that institutional factors may produce a positive correlation between price and previous rates of return. Theoretical considerations lead to the hypothesis that low previous returns might often be associated with changes in future betas, and the subsequent empirical work
The Journal of Finance – Wiley
Published: May 1, 1973
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