Quantifying the Beta Estimation Bias and its Implications for Empirical Asset Pricing

Abstract

Asynchronous trading and slow information diffusion cause an asset’s beta estimate to
be biased. A quantification of this bias stemming from both sources combined, finds
that beta can be underestimated by up to 50 %. I show that about 3⁄4 of the bias can
be attributed to slow information diffusion and highlight the relevance of the bias even
for today’s market environment in which the effect of asynchronous trading vanishes.
The method of Dimson (1979) as applied in the literature does only account for a small
part of the estimation error, leaving a bias of up to 30 %.

Keywords: Measurement error, Asynchronous trading, Beta estimation, Bias correction, Slow information diffusion

JEL Classification: C1, C18, G12