Hi guys,

I have a simple question. I wanna use the market-adjusted return model and I don’t know in which order I should do the calculations.

This is my data:

- Monthly stock returns of many firms and the monthly market index return over a period of 12 months

- I want to calculate the average abnormal annual return

What should I calculate first?

1) Monthly stock returns minus Monthly market index returns, then compound the monthly abnormal returns to get the annual abnormal returns and then take the average of all annual abnormal returns

2) Compound the monthly returns for the stocks as well for the market, take the average across all firms and then subtract the averages from each other

3) Compound the monthly returns for the stocks as well as for the market, subtract them from each other and then take the average

Which one is right?

Thanks