Tests of Long-Term Abnormal Performance: Analysis of Power

49 Pages Posted: 23 Mar 2009 Last revised: 10 Apr 2014

See all articles by Alexander Nekrasov

Alexander Nekrasov

University of Illinois at Chicago

Pervin K. Shroff

University of Minnesota - Twin Cities - Carlson School of Management

Rajdeep Singh

University of Minnesota - Twin Cities - Carlson School of Management

Date Written: April 10, 2014

Abstract

In tests of long-term performance, researchers are faced with several research design choices. For instance, when estimating abnormal returns, what specific firm characteristics should be used as matching criteria to select control firms? What weights should be placed on each characteristic? Should an event firm be matched with one control firm or multiple control firms or with a reference portfolio? Should we use the calendar-time portfolio approach? We provide guidance to researchers on these questions by evaluating the power of the test using simulation analyses. We find that the quality of matching when selecting control firms has little impact on the power of the test. Among the alternative approaches studied, the Fama-French calendar-time portfolio approach obtains the highest power in random samples. Interestingly, we find that the higher power of this approach is attributable to the return aggregation method rather than the use of multiple risk factors or the in-sample fit of the model. In most nonrandom samples, the Fama-French approach obtains the highest power – the one exception being samples with extreme event-time clustering. Overall, for a reasonable sample size, the power of the best available methodology to detect economically significant abnormal returns is quite low.

Keywords: matching, Fama-French, calendar-time, misspecification

JEL Classification: C12, C52, G14

Suggested Citation

Nekrasov, Alexander and Shroff, Pervin K. and Singh, Rajdeep, Tests of Long-Term Abnormal Performance: Analysis of Power (April 10, 2014). Available at SSRN: https://ssrn.com/abstract=1364272 or http://dx.doi.org/10.2139/ssrn.1364272

Alexander Nekrasov

University of Illinois at Chicago ( email )

1200 W Harrison St
Chicago, IL 60607
United States

HOME PAGE: http://business.uic.edu/profiles/alexander-nekrasov/

Pervin K. Shroff (Contact Author)

University of Minnesota - Twin Cities - Carlson School of Management ( email )

19th Avenue South
Minneapolis, MN 55455
United States
612-626-1570 (Fax)

Rajdeep Singh

University of Minnesota - Twin Cities - Carlson School of Management ( email )

19th Avenue South
Minneapolis, MN 55455
United States
612-624-1061 (Phone)
612-626-1335 (Fax)

HOME PAGE: http://umn.edu/~rajsingh

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