- CFA Exams
- CFA Level I Exam
- Study Session 9. Equity Valuation (1)
- Reading 25. Return Concepts
- Subject 3. The required return on equity - the CAPM approach

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**CFA Practice Question**

The choice of the length of period and the frequency of observation will affect the estimation of:

A. Equity risk premium only.

B. Beta estimate for a particular stock only.

C. Both equity risk premium and the beta estimate for a particular stock.

**Explanation:**The decision affects both estimates.

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**User Contributed Comments**
7

User |
Comment |
---|---|

richmondo |
Confused here - I think (c) is wrong ! p 110 ch 35 says - ' dividing a data period of given length into smaller subperiods does not increase precision in estimating the mean - only extending the length of the data set can increase precision' The footnote (11) also says that higher frequency of estimation will improve the precision in estimating variance and co-variance - (and therefore Beta) So on this basis how can (c) be correct? |

D1788 |
The observation period affects the beta estimate which in turn affects the risk premium hence both are affected |

dream007 |
i don't get it...thought beta is calculated using covariance and standard deviation? |

birdperson |
exactly dream007 --- it is, think about it though the covariance between stock "A" and the market and the standard deviation of each depend on the frequency of the observations and how far back in time you pull data from |

111hal111 |
Beta is thought to be mean reverting |

giovannig |
Well, we do agree Beta is influenced by sample length. Beta then "adjusts" the ERP. Also the ERP is sometimes used in historical realized terms, rather than forward looking. And again, sample size would affect that value. |

asaraci75 |
c is wrong. equity risk premium applies to the market, not an individual company. Beta adjusts for the company's risk in relation to the market risk premium. |