This study employs an innovative market-based approach, where ROE are employed as proxy for cash-flow news and a state-space model is used for market news decomposition. We document that the explanatory power of the Bad Beta Good Beta (BBGB) model of Campbell and Vuolteenaho (2004) is about 30% for the cross-section of stock returns. We also find the BBGB model adequately explains the size effect leading to its superior performance. The results are obtained controlling for news decomposition method and market news proxies bias. We contribute to the literature by providing an alternative easy-to implement and consistent market-based method for news decomposition.
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