Estimation Bias Induced by Discrete Security Prices

Clifford A Ball

Journal of Finance, 1988, vol. 43, issue 4, pages 841-65

Abstract: Commonly, equilibrium security prices are modeled by continuous state stochastic processes while observed prices are rounded i nto discrete units. This paper models the rounding mechanism and exam ines the probabilistic structure of the resultant rounded process. Th e author provides accurate and simple estimates of the inflation in e stimated variance and kurtosis induced by ignoring rounding. In parti cular, the maximum likelihood estimate of security price volatility, using rounded prices, is developed and a simulation analysis is perfo rmed to examine the small sample properties of this estimator. For ma ny practical applications, a simple correction for rounding becomes a vailable. Copyright 1988 by American Finance Association.

Date: 1988
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