More on the Estimation of β for Public Utilities: Biases Resulting from Structural Shifts in True Beta

The recent Brigham-Crum criticism of the use of the Capital Asset Pricing Model (CAPM) is incorrect. CAPM is criticized for bias in cost of equity capital estimates due to perceived systematic risk levels. The critique was based on a specific correlation assumption; other correlation assumptions would produce different results. Brigham-Crum assume a negative correlation between returns due to changes in beta and changes due to all other causes. This assumption results in a bias which systematically underestimates cost of equity capital. The earlier research also assumes in its empirical study that the increase in risk related to financially failing companies studied is systematic risk. This assumption is probably incorrect. The systematic risk is also accompanied by investor perceptions of total security risk. Exhibits.