We acknowledge very helpful comments of an anonymous referee, Bill Christie (the editor), Brad Jordan, and participants at the 2007 Financial Management Association meetings in Orlando.
Can Operating Leverage Be the Cause of the Value Premium?
Article first published online: 16 SEP 2010
© 2010 Financial Management Association International
Volume 39, Issue 3, pages 1127–1154, Autumn 2010
How to Cite
García-Feijóo, L. and Jorgensen, R. D. (2010), Can Operating Leverage Be the Cause of the Value Premium?. Financial Management, 39: 1127–1154. doi: 10.1111/j.1755-053X.2010.01106.x
- Issue published online: 16 SEP 2010
- Article first published online: 16 SEP 2010
Recent theoretical models (Carlson, Fisher, and Giammarino, 2004) predict an association between the book-to-market equity ratio (BE/ME) and operating leverage in the cross-section. Consistent with these models, we find a positive association between BE/ME and the degree of operating leverage (DOL), between DOL and stock returns, and between DOL and systematic risk. Overall, our findings provide support for a risk-based explanation for the value premium that is consistent with existing theoretical models. The evolution of systematic risk associated with firm-level investment activity, rather than financial distress, seems to be the main determinant of the value premium.