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Resolving Estimation Ambiguity

Author

Listed:
  • Decaire, Paul H.

    (Arizona State U)

  • Sosyura, Denis

    (Arizona State U)

  • Wittry, Michael D.

    (Ohio State U)

Abstract

Economic models develop conceptual frameworks for fundamental decisions but rarely prescribe a specific estimation approach. Using novel data on the inputs and assumptions in professional stock valuations, we study how financial analysts address estimation ambiguity when calculating a firm’s cost of capital. Analysts use the same return-generating model (CAPM) but diverge in their estimation choices for key inputs, such as equity betas. Such estimation choices are driven by idiosyncratic analyst specific criteria, persist throughout their career and across brokerages, and generate large cross-analyst variation in discount rates for the same stock. The dispersion in discount rates is associated with higher market measures of investor disagreement, such as trading volume. Overall, we provide micro evidence on how financial experts resolve estimation uncertainty.

Suggested Citation

  • Decaire, Paul H. & Sosyura, Denis & Wittry, Michael D., 2024. "Resolving Estimation Ambiguity," Working Paper Series 2024-19, Ohio State University, Charles A. Dice Center for Research in Financial Economics.
    • Handle: RePEc:ecl:ohidic:2024-19
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    More about this item

    JEL classification:

    • D25 - Microeconomics - - Production and Organizations - - - Intertemporal Firm Choice: Investment, Capacity, and Financing
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search; Learning; Information and Knowledge; Communication; Belief; Unawareness
    • G30 - Financial Economics - - Corporate Finance and Governance - - - General
    • G31 - Financial Economics - - Corporate Finance and Governance - - - Capital Budgeting; Fixed Investment and Inventory Studies
    • G41 - Financial Economics - - Behavioral Finance - - - Role and Effects of Psychological, Emotional, Social, and Cognitive Factors on Decision Making in Financial Markets
    • O13 - Economic Development, Innovation, Technological Change, and Growth - - Economic Development - - - Agriculture; Natural Resources; Environment; Other Primary Products
    • Q15 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - Agriculture - - - Land Ownership and Tenure; Land Reform; Land Use; Irrigation; Agriculture and Environment
    • R14 - Urban, Rural, Regional, Real Estate, and Transportation Economics - - General Regional Economics - - - Land Use Patterns

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