The earnings announcement changes the stock price by some amount that would have occurred anyway because the market moved. The expected-return model is the subtraction that removes that piece.
On a daily Dow announcement the usual subtraction is the market model, estimated on the estimation window. This note compares that regression with the constant-mean return, with a size or industry factor, and with CAPM or APT restrictions, using the variance reduction Campbell, Lo & MacKinlay write down.
It does not re-derive ordinary least squares; the coefficient algebra is the core regression result, applied here to event-time returns.
Learning objectives. By the end of this note you should be able to:
- write the constant-mean model and the market model, and name in each;
- state the variance ratio between the two abnormal-return measures in terms of the market-model ;
- say when a second factor is worth fitting, and when it is not;
- explain why a CAPM restriction is not required for the event-study subtraction.
In this lesson
- Statistical models
- How much variance the market removes
- What is being subtracted on the earnings day
- Factors, size, and economic restrictions
- Audit on the running announcement
Before you start
The full lesson, with worked examples and exercise solutions, is for members.
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