Linear Versus Non-linear Relationships Between Financial Ratios and Stock Returns: Empirical Evidence from Egyptian Firms

Even though most previous research studies suggest that the relationship between common financial ratios and stock returns is linear, recent studies by Mramor and Mramor-Kosta (1997), and Mramor and Pahor (1998) show that such a linear relationship might not generally exist. In this study, we model the relationships between common financial ratios and stock returns from 1996 to 2000 using linear and non-linear forms for a sample of 46 Egyptian firms. Our empirical findings suggest that non-linear relationships exist and are more descriptive of the behavior of stock returns.