Emerging markets have been a fertile ground for economic and financial market research in recent years. One argument behind the interest is that emerging markets provide great out-of-sample tests of existing models. Studies using US data show that there is a value premium: value stocks outperform growth stocks (Famaand French [1992,1996]and Lakonishok, Shleiferand Vishny[1994]).
Portfolios of stocks with low price to-book (P/B) values, price-to-earnings or price to-cash flow multiples deliver excess returns, which cannot be accounted for with standard asset pricing models. Famaand French [1998]provide similar evidence for several other developed equity markets. As value strategies in developing markets have not been studied extensively yet, this paper further examines the robustness of the value premium in emerging markets.
Empirical literature suggests that the same factors that drive cross-sectional return differences in developed markets are also present in emerging markets. Claessens, Dasguptaand Glen[1998], Rouwenhorst[1999]and Barry, Goldreyer, Lockwoodand Rodriguez [2002]provide evidence that individual stock selection on the basis of value generatesout performance in emerging markets. Van der Hart, Slagterand Van Dijk [2003]extend this work to a broader range of trading strategies. Besides value, they show strong excess returns for strategies based on price momentum, as in Jegadeesh and Titman[1993], and earnings revisions.
In this paper we will focus purely on the value anomaly. Our approach differs from other valuation studies as we focus on country selection strategies, as Serra[2000]reports that country effects are the most important factor explaining emerging market returns. We find additional evidence supporting the existence of a value premium in emerging markets: a portfolio invested in countries with low price-to-book values significantly outperformsa portfolio of high price to-book countries.
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Value investing in emerging markets: Local macroeconomic risk and extrapolation
