Securities Valuation

Articles:

1. Discussion of The Book to Price Effect in stock Returns: Accounting for Leverage.
2. Valuation when bankruptcy is a possibility and taxes matter.

The reason select this article:

To know deeper the effect of expanding the traditional models for valuation of simple securities to include the effect of taxation of the cash flow from investing and the possibility of bankruptcy of the issuer.

Components of Comparison	Article from CRP	Article from Student
Title	Discussion of The Book to Price Effect in stock Returns: Accounting for Leverage	Valuation when bankruptcy is a possibility and taxes matter
Topic	Securities Valuation	Securities Valuation
Theory used by article	Dichev 1998, Campbell, Hilscher, and Szilagyi 2006, Demers and Joos 2006 Robust across numerous specifications and controls for known risk factors, and is consistent with the inverse relation found between future returns and boarder measure of financial distress and bankruptcy risk in different contexts. Fama and French 1992, 1998 hypothesize that the book-to-market ratio proxies for financial distress risk, and hence, should display a positive relation with expected and realized returns.	Amromin et al. (2005) stocks with high dividend yield tended to increase in value whereas stocks with low dividend yield or no dividend exhibited no change in valuation.
Hypothesis of research	Financial leverage has a negative relation with future returns after controlling for the firm’s asset risk.	Reducing the tax rate on capital gains does not always benefit bondholders and shareholders.
Variables used in research	Unlevered pricing multiple Financial leverage	Preffered Stock Common Stock Bonds
Method of analysis	The use of book values to measure economic leverage The classification of an operating versus financial liability Measurement of Asset Risk	Classical Valuation Method
Result of the analysis	Conditional on operating risk, returns are decreasing in financial leverage. The ratio unlevered pricing multiple is positively related to future returns. The value premium associated with unlevered pricing multiple is increasing in leverage; this pattern is consistent with the evidence in Griffin and Lemmon that the book-to-market effect is increasing in the probability of bankruptcy. The magnitude of the authors’ leverage-return relation is negatively related to future returns is strongest (weakest) among low (high) unlevered pricing multiple deciles, this pattern is also consistent with the evidence found in griffin and Lemmon. Conclusion: The documented results are consistent with a set of recent papers that document cross-sectional variation in the predictive ability of financial distress, leverage, and the book-to-market ratios.	Preferred stock with zero probability of bankruptcy be affected by changes in the tax rate for capital gains and preferred with non-zero probability of insolvency will gain in value if the tax increased. No sensitivity to changes in tax for stock that has no possibility of bankruptcy and an increase in value with increasing capital gains tax for stock for which the probability of insolvency is not zero. Bonds with common maturity, discount rate, and probability if insolvency the ones with high coupon rate will tend to increase in value as the tax rate is increased whereas the ones with low coupon rates will tend to decrease in value as the tax rate is increased. Conclusion: The consequences of public Policy decisions, such as changes in tax rates, are not as straightforward and simple as the public debate would make them appear. The effect of a change in the tax on dividends or interest can be predicted only if the resulting change in the after tax discount rate can be calculated. A change in the tax on capital gains may not affect all investors favorably, some investors may gain but others may lose, depending on the relation between the cost of acquisition of the assets used as a basis for tax computations to their current market value.