Author
Robert H. Litzenberger
Other affiliations: Stanford University
Bio: Robert H. Litzenberger is an academic researcher from University of Pennsylvania. The author has contributed to research in topics: Capital asset pricing model & Portfolio. The author has an hindex of 32, co-authored 63 publications receiving 14750 citations. Previous affiliations of Robert H. Litzenberger include Stanford University.
Papers published on a yearly basis
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TL;DR: In this article, it was shown that the Modigliani-Miller independence thesis in a state preference framework does not depend upon the assumption that the firm will earn its debt obligation with certainty, since bankruptcy penalties would not exist in a perfect market.
Abstract: IN COMPLETE and perfect capital markets, Hirshleifer [6, 7], Robichek and Myers [13], and Stiglitz [15] have shown that the firm's market value is independent of its capital structure. Although firms may issue conventional types of complex securities, such as common stocks and bonds, if the number of distinct complex securities equals the number of states of nature, individuals are able to create primitive securities. A primitive security represents a dollar claim contingent on the occurrence of a specific state of nature and can be created by purchasing and selling short given amounts of complex securities. Since in a perfect market the firm is a price taker, the market prices of these primitive securities are unaffected by the firm's financing mix. Therefore, given the firm's capital budgeting decisions which determine the firm's returns in each state, the firm's market value is independent of its capital structure. The market value of the firm equals the summation over states of the product of the dollar return contingent on a state and the market price of the primitive security representing a dollar claim contingent on the occurrence of that state. The proof of the Modigliani-Miller [8] independence thesis in a statepreference framework does not depend upon the assumption that the firm will earn its debt obligation with certainty. The firm may not earn the "promised" return on its bonds in some states of the world and would be bankrupt. In these states the firm's bonds are claims on the residual value of the firm. Although the firm's financing mix determines the states in which the firm is insolvent, the value of the firm is not affected since bankruptcy penalties would not exist in a perfect market. Therefore, sufficient conditions for the Modigliani-Miller independence thesis are complete and perfect capital markets. The taxation of corporate profits and the existence of bankruptcy penalties are market imperfections that are central to a positive theory of the effect of capital structure on valuation. A tax advantage to debt financing arises since interest charges are tax deductible. Assuming that the firm earns its debt obligation, financial leverage decreases the firm's corporate income tax liability and increases its after-tax operating earnings. However, a corporate bond is not merely a bundle of contingent claims but is a legal obligation to pay a fixed
2,154 citations
TL;DR: In this paper, the authors extend the SharpeLintner model to incorporate the covariance of risk assets and show that the results are consistent with capital market equilibrium in the absence of borrowing.
Abstract: contributions to portfolio analysis have been based on the two parameter (meanvariance) model of portfolio selection. Markowitz's normative theory provides the basis for the positive theory of the valuation of risk assets developed by Sharpe [38] and Lintner [27]. The two parameter capital asset pricing model has been subject to numerous applications including performance measurement, tests of security market efficiency and corporation finance.' Recently, Friend and Blume [15], Black, Jensen and Scholes [5], Miller and Scholes [31], Fama and MacBeth [14], and Blume and Friend [8] have published empirical results which are inconsistent with the traditional form of the SharpeLintner model. These studies suggest that the slope of the capital asset pricing model is lower and the intercept higher than predicted by the traditional theory. Using the Cass-Stiglitz [10] observation that the entire mean variance frontier may be generated by linear combinations of any frontier portfolios, Vasicek [41] and Black [6] show that these empirical results are consistent with capital market equilibrium in the absence of borrowing. Unfortunately, the Vasicek-Black modification results in a weaker positive theory since neither the magnitude of the slope nor the magnitude of the intercept of their capital market model is predicted. Brennan [9] shows that under divergent borrowing and lending rates the modified capital asset pricing model predicts that the intercept is bounded by the borrowing and lending rates and, equivalently, that the slope is bounded by the difference between the market's expected rate of return and the lending rate, and the difference between the market's expected rate of return and the borrowing rate. Although Friend and Blume interpret their empirical results as consistent with a mean variance model under divergent borrowing and lending rates, the Black, Jensen and Scholes' empirical results appear to be inconsistent with the predictions of the Brennan modification since the intercept exceeds the borrowing rate. The present paper extends the capital asset pricing model to incorporate the
1,926 citations
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TL;DR: In this article, the authors derive the prices of primitive securities from call options on aggregate consumption, and derive an equilibrium valuation of assets with uncertain payoffs at many future dates by using the Black-Scholes equation.
Abstract: This paper implements the time-state preference model in a multi-period economy, deriving the prices of primitive securities from the prices of call options on aggregate consumption. These prices permit an equilibrium valuation of assets with uncertain payoffs at many future dates. Furthermore, for any given portfolio, the price of a $1.00 claim received at a future date, if the portfolio's value is between two given levels at that time, is derived explicitly from a second partial derivative of its call-option pricing function. An intertemporal capital asset pricing model is derived for payoffs that are jointly lognormally distributed with aggregate consumption. It is shown that using the Black-Scholes equation for options on aggregate consumption implies that individuals' preferences aggregate to isoelastic utility.
1,911 citations
TL;DR: In this article, the Black-Scholes equation for options on aggregate consumption has been used to derive the prices of primitive securities from the price of call options on aggregated consumption.
Abstract: The time-state preference approach to general equilibrium in an economy as developed by Arrow (1964) and Debreu (1959) is one of the most general frameworks available for the theory of finance under uncertainty. Given the prices of primitive securities (a security that pays $1.00 contingent upon a given state of the world at a given date, and zero otherwise, is a primitive This paper implements the time-state preference model in a multiperiod economy, deriving the prices of primitive securities from the prices of call options on aggregate consumption. These prices permit an equilibrium valuation of assets with uncertain payoffs at many future dates. Furthermore, for any given portfolio, the price of a $1.00 claim received at a future date, if the portfolio's value is between two given levels at that time, is derived explicitly from a second partial derivative of its calloption pricing function. An intertemporal capital asset pricing model is derived for payoffs that are jointly lognormally distributed with aggregate consumption. It is shown that using the Black-Scholes equation for options on aggregate consumption implies that individuals' preferences aggregate to isoelastic utility.
1,630 citations
TL;DR: In this article, the authors derived an after tax version of the Capital Asset Pricing Model, which accounts for a progressive tax scheme and for wealth and income related constraints on borrowing, and showed that before-tax expected rates of return are linearly related to systematic risk and to dividend yield.
1,260 citations
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TL;DR: In this article, the authors draw on recent progress in the theory of property rights, agency, and finance to develop a theory of ownership structure for the firm, which casts new light on and has implications for a variety of issues in the professional and popular literature.
49,666 citations
TL;DR: In this article, the authors identify five common risk factors in the returns on stocks and bonds, including three stock-market factors: an overall market factor and factors related to firm size and book-to-market equity.
24,874 citations
TL;DR: In this article, an exponential ARCH model is proposed to study volatility changes and the risk premium on the CRSP Value-Weighted Market Index from 1962 to 1987, which is an improvement over the widely-used GARCH model.
Abstract: This paper introduces an ARCH model (exponential ARCH) that (1) allows correlation between returns and volatility innovations (an important feature of stock market volatility changes), (2) eliminates the need for inequality constraints on parameters, and (3) allows for a straightforward interpretation of the "persistence" of shocks to volatility. In the above respects, it is an improvement over the widely-used GARCH model. The model is applied to study volatility changes and the risk premium on the CRSP Value-Weighted Market Index from 1962 to 1987. Copyright 1991 by The Econometric Society.
10,019 citations
TL;DR: Scholes et al. as discussed by the authors examined the relationship between the total market value of the common stock of a firm and its return and found that small firms had higher risk adjusted returns than large firms.
5,997 citations
TL;DR: A review of the market efficiency literature can be found in this article, where the authors discuss the work that they find most interesting, and offer their views on what we have learned from the research on market efficiency.
Abstract: SEQUELS ARE RARELY AS good as the originals, so I approach this review of the market efficiency literature with trepidation. The task is thornier than it was 20 years ago, when work on efficiency was rather new. The literature is now so large that a full review is impossible, and is not attempted here. Instead, I discuss the work that I find most interesting, and I offer my views on what we have learned from the research on market efficiency.
5,506 citations