The Relative Efficiency of Beta Estimates

Abstract

When estimation of beta is based on the Capital Asset Pricing Model the standard recommendation is to use five years of monthly data and a value-weighted index. Given the importance of the beta estimate obtained for financial decisions, such as those involved in portfolio management, capital budgeting, and performance evaluation, there is surprisingly little research evidence in support of this recommendation. The objective of this paper is to address this shortcoming. For this purpose the relative efficiency of beta estimates which result from using different data frequencies, time periods, and indexes is examined. It is found that five years of monthly data and an equal-weighted index, as opposed to the commonly recommended value-weighted index, provides the most efficient estimate.

Keywords: Capital Asset Pricing Model, beta estimation

JEL Classification: G11, G12, G31