CHAPTER 11: THE EFFICIENT MARKET HYPOTHESIS
PROBLEM SETS
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1. The correlation coefficient between stock returns for two nonoverlapping periods should be zero. If not, returns from one period could be ud to predict returns in later periods and make abnormal profits.
2. No. Microsoft’s continuing profitability does not imply that stock market investors who purchad Microsoft shares after its success was already evident would have earned an exceptionally high return on their investments. It simply means that Microsoft has made risky investments over the years that have paid off in the form of incread cash flows and profitability. Microsoft shareholders have benefited from the risk-expected return tradeoff, which is consistent with the EMH.
3. Expected rates of return differ becau of differential risk premiums across all curities.我只在乎你日语
4. No. The value of dividend predictability would be already reflected in the stock price.
5. No, markets can be efficient even if some investors earn returns above the market average. Consider the Lucky Event issue: Ignoring transaction costs, about 50% of professional investors, by definition, will “beat” the market in any given year. The probability of beating it three years in a row, though small, is not insignificant. Beating the market in the past does not predict future success as three years of returns make up too small a sample on which to ba correlation let alone causation.
追梦无悔6. Volatile stock prices could reflect volatile underlying economic conditions as large amounts of information being incorporated into the price will cau variability in stock price. The efficient market hypothesis suggests that investors cannot earn excess risk-adjusted rewards. The variability of the stock price is thus reflected in the expected returns as returns and risk are positively correlated.
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7. The following effects em to suggest predictability within equity markets and thus disprove the efficient market hypothesis. However, consider the following:
a. Multiple studies suggest that “value” stocks (measured often by low P/E multiples) earn higher returns over time than “growth” stocks (high P/E multiples). This could suggest a strategy for earning higher returns over time. However, another rational argument may be that traditional forms of CAPM (such as Sharpe’s model) do not fully account for all risk factors that affect a firm’s price level. A firm viewed as riskier may have a lower price and thus P/E multiple.
b. The book-to-market effect suggests that an investor can earn excess returns by investing in companies with high book value (the value of a firm’s asts minus its liabilities divided by the number of shares outstanding) to market value. A study by Fama and French suggests that book-to-market value reflects a risk factor that is not accounted for by traditional one variable CAPM. For example, companies experiencing financial distress e the ratio of book to market value increa. Thus a more complex CAPM that includes book-to-market value as an explanatory variable should be ud to test market anomalies.
c. Stock price momentum can be positively correlated with past performance (short to intermediate horizon) or negatively correlated (long horizon). Historical data em to imply statistical significance to the patterns. Explanations for this include a bandwagon effect or the behaviorists’ (e Chapter 12) explanation that there is a tendency for investors to underreact to new information, thus producing a positive rial correlation. However, statistical significance does not imply economic significance. Several studies that included transaction costs in the momentum models discovered that momentum traders tended to not outperform the efficient market hypothesis strategy of buy and hold.
d. The small-firm effect states that smaller firms produce better returns than larger firms. Since 1926, returns from small firms outpace large firm stock returns by about 1% per year. Do small cap investors earn excess risk-adjusted returns?
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The measure of systematic risk according to Sharpe’s CAPM is the stock’s beta (or nsitivity of returns of the stock to market returns). If the stock’s beta is the best explanation of risk, then the small-firm effect does indicate an inefficient market. Dividing t
he market into deciles bad on their betas shows an increasing relationship between betas and returns. Fama and French show that the empirical relationship between beta and stock returns is flat over a fairly long horizon (1963–1990). Breaking the market into deciles bad on sizes and then examining the relationship between beta and stock returns within each size decile exhibits this flat relationship. This implies that firm size may be a better measure of risk than beta and the size-effect should not be viewed as an indicator that markets are inefficient. Heuristically this makes n, as smaller firms are generally viewed as risky compared to larger firms and perceived risk and return are positively correlated. 投诉信英语作文模板
