Finance Chapter 12

geometric average return

the average compound return earned per year over a multiyear period

Two lessons for investors from this recent volatility:

1. stocks have significant risk 2. diversification matters

The average annual return on small-company stocks was about _____ percent greater than the average annual return on large-company stocks over the period 1926-2013. 3 5 7 9 11

5

Harmonic Mean

A type of weighted mean computed by averaging the reciprocals of the observations, then taking the reciprocal of that average.

Which one of the following statements best defines the efficient market hypothesis? a. Efficient markets limit competition. b. Security prices in efficient markets remain steady as new information becomes available. c. Mispriced securities are common in efficient markets. d. All securities in an efficient market are zero net present value investments. e. Profits are removed as a market incentive when markets become efficient.

All securities in an efficient market are zero net present value investments.

Which one of the following categories of securities had the highest average return for the period 1926-2013? U.S. Treasury bills Large-company stocks Small company stocks Long-term corporate bonds Long-term government bonds

Small company stocks

Efficient financial markets fluctuate continuously because: The markets are continually reacting to old information as that information is absorbed. The markets are continually reacting to new information. Arbitrage trading is limited. Current trading systems require human intervention. Investments produce varying levels of net present values.

The markets are continually reacting to new information.

Which one of the following had the least volatile annual returns over the period of 1926-2013? Large-company stocks Inflation Long-term corporate bonds U.S. Treasury bills Intermediate-term government bonds

US Treasury Bills

standard deviation

a common method used to measure the risk of a probability distribution; it is the positive square root of the variance

Variance

a method to measure the variability of returns; it is the average squared difference between the actual return and the average return

Weak-form EMH

the assertion that stock prices already reflect all information contained in the history of past trading

Efficient Market Hypothesis

the hypothesis that prices of securities fully reflect available information about securities

Which form of market efficiency would most likely offer the greatest profit potential to an outstanding professional stock analyst? Weak Semi weak Semi strong Strong Perfect

weak

normal distributions

Are symmetric ("bell curves") and have 'normal' tails. if it is normal, then it is described completely by its mean and variance

Which one of the following is the most likely reason why a stock price might not react at all on the day that new information related to the stock's issuer is released? Assume the market is semi strong form efficient Company insiders were aware of the information prior to the announcement Investors do not pay attention to daily news Investors tend to overreact The news was positive The information was expected

The information was expected

Standard deviation is a measure of which one of the following? a. average rate of return b. volatility c. probability d. risk premium e. real return

b. volatility

Passive Management

buys and holds a well-diversified portfolio

Which one of the following is defined by its mean and its standard deviation? a. arithmetic nominal return b. geometric real return c. normal distribution d. variance e. risk premium

c. normal distribution

Assume all stock prices fairly reflect all of the available information on those stocks. Which one of the following terms best defines the stock market under these conditions? a. riskless market b. evenly distributed market c. zero volatility market d. blume's market e. efficient capital market

e. efficient capital market

Fundamental Analysis

research on determinants of stock value, such as earnings and dividend prospects, expectations for future interest rates, and risk of the firm

Technical Analysis

research on recurrent and predictable stock price patterns and on proxies for buy or sell pressure in the market

The U.S. Securities and Exchange Commission periodically charges individuals with insider trading and claims those individuals have made unfair profits. Given this, you would be most apt to argue that the markets are less than _____ form efficient. Weak Semi weak Semi strong Strong Perfect

strong

Semi-strong form EMH

the assertion that stock prices already reflect all publicly available information

Strong-form EMH

the assertion that stock prices reflect all relevant information, including inside information

Which one of the following statements is correct concerning market efficiency? Real asset markets are more efficient than financial markets. If a market is efficient, arbitrage opportunities should be common. In an efficient market, some market participants will have an advantage over others. A firm will generally receive a fair price when it issues new shares of stock if the market is efficient. New information will gradually be reflected in a stock's price to avoid any sudden change in the price of the stock if the market is efficient.

A firm will generally receive a fair price when it issues new shares of stock if the market is efficient.

Which of the following statements are true based on the historical record for 1926-2013? Risk-free securities produce a positive real rate of return each year. Bonds are generally a safer investment than are stocks. Risk and potential reward are inversely related. The normal distribution curve for large-company stocks is narrower than the curve for small-company stocks. Returns are more predictable over the short term than they are over the long term.

Bonds are generally a safer investment than are stocks.

Which one of the following statements related to market efficiency tends to be supported by current evidence? It is easy for investors to earn abnormal returns. Short-run price movements are easy to predict. Markets are most likely only weak-form efficient. Mispriced stocks are easy to identify. Markets tend to respond quickly to new information.

Markets tend to respond quickly to new information.

Variance and Standard Deviation

are both measure of dispersion both measure the volatility of asset returns greater volatility----greater uncertainty

arithmetic average return

the return earned in an average year over a multiyear period

Active Management

tries to generate "extra returns" through security analysis and market timing