16.4 Stock Return Response Modeling

Valuation model

$$MarketCap_{it} = \sum_{T = t}^\infty (\frac{1}{1 + r_{it}})^{T-t} E(CF_T)$$

Equivalently,

$$MarketCap_{it} = (1 + Eret_{it}) MarketCap_{it-1}+ \sum_{T=t}^\infty (\frac{1}{1+r_{it}})^{T-t} \Delta E(CF_{iT})$$

where0

• $Eret$ = expected rate of return for an asset

• $\Delta E(CF_{iT})$ = change in the expected cash flows

Hence, the stock return can be written as

$$StockReturn_{it} =$$