Observed and “fundamental” price–earning ratios: A comparative analysis of high-tech stock evaluation in the US and in Europe

• Published in: Journal of international money and finance Vol. 24; no. 4; pp. 549 - 581
• Main Authors: Bagella, Michele, Becchetti, Leonardo, Adriani, Fabrizio
• Format: Journal Article
• Language: English
• Published: Kidlington Elsevier Ltd 01-06-2005; Elsevier; Elsevier Science Ltd
• Series: Journal of International Money and Finance
• Subjects: Asset pricing; Comparative analysis; Discounted cash flow; Financial market microstructure; International finance; Investment policy; Price earnings ratio; Studies; Technology stocks; United States > US; Europe; G12; Financial market microstructure; G14; Asset pricing
• ISSN: 0261-5606; 1873-0639
• DOI: 10.1016/j.jimonfin.2005.03.004

By assuming that a large share of investors (which we call fundamentalists) follows a fundamental approach to stock picking, we build a discounted cash flow (DCF) model and test on a sample of high-tech stocks whether the strong and the weak version of the model are supported by data from the US and European stock markets. Empirical results show that “fundamental” earning price ratios explain a significant share of cross-sectional variation of the observed
E/
P ratios, with other additional variables being only partially and weakly relevant.
Within this general framework, valid both for Europe and the US, empirical results outline significant differences between the two markets. The most relevant of them is that the relationship between observed and fundamental
E/
P ratios is much weaker in Europe.