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What Is the Intrinsic Value of the Dow?

Charles M. C. Lee, James Myers and Bhaskaran Swaminathan
The Journal of Finance
Vol. 54, No. 5 (Oct., 1999), pp. 1693-1741
Published by: Wiley for the American Finance Association
Stable URL: http://www.jstor.org/stable/222501
Page Count: 49
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What Is the Intrinsic Value of the Dow?
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Abstract

We model the time-series relation between price and intrinsic value as a cointegrated system, so that price and value are long-term convergent. In this framework, we compare the performance of alternative estimates of intrinsic value for the Dow 30 stocks. During 1963-1996, traditional market multiples (e.g., B/P, E/P, and D/P ratios) have little predictive power. However, a V/P ratio, where V is based on a residual income valuation model, has statistically reliable predictive power. Further analysis shows time-varying interest rates and analyst forecasts are important to the success of V. Alternative forecast horizons and risk premia are less important.

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