The answer, of course, is that it can't. Hou, Xue, and Zhang's (2014) empirical model does price portfolios sorted on prior year's performance, but for reasons outside of q-theory---it does so by including a fundamental momentum factor, i.e., a factor based on momentum in firm fundamentals. The...

Ferson, Sarkissian and Simin (2003) warn that persistence in expected returns generates spurious regression bias in predictive regressions of stock returns, even though stock returns are themselves only weakly autocorrelated. Despite this fact a growing literature attempts to explain the...

Ferson, Sarkissian and Simin (2003) warn that persistence in expected returns generates spurious regression bias in predictive regressions of stock returns, even though stock returns are themselves only weakly autocorrelated. Despite this fact a growing literature attempts to explain the...

A new factor model consisting of the market factor, an investment factor, and a return-on-equity factor is a good start to understanding the cross-section of expected stock returns. Firms will invest a lot when their profitability is high and the cost of capital is low. As such, controlling for...