Chapter 11: The Efficient Market Hypothesis

Studies of negative earnings surprises have shown that there is

D. both a negative abnormal return on the day negative earnings surprises are announced and a positive drift in the stock price on the days following the earnings surprise announcement.

Which of the following are used by technical analysts to determine proper stock prices?

I) trendlines, V) resistance levels

Which of the following are used by fundamental analysts to determine proper stock prices?

II) earnings III) dividend prospects IV) expectations of future interest rates

Proponents of the EMH think technical analysts

are wasting their time.

A common strategy for passive management is ____________.

creating an index fund

Proponents of the EMH typically advocate

investing in an index fund and a passive investment strategy

In an efficient market, __________.

security prices react quickly to new information, are seldom far above or below their justified levels, and security analysis will not enable investors to realize superior returns consistently

If you believe in the reversal effect, you should

sell stocks this period that performed well last period.

If you believe in the _______ form of the EMH, you believe that stock prices only reflect all information that can be derived by examining market trading data such as the history of past stock prices, trading volume or short interest.

weak

In an efficient market the correlation coefficient between stock returns for two non- overlapping time periods should be

zero

_________ above which it is difficult for the market to rise.

A resistance level is a value

_________ below which it is difficult for the market to fall.

A support level is a value

__________ focus more on past price movements of a firm's stock than on the underlying determinants of future profitability.

Technical analysts

Cumulative abnormal returns (CAR)

are used in event studies and are better measures of security returns due to firm-specific events than are abnormal returns (AR).

If you believe in the reversal effect, you should

buy stocks this period that performed poorly last period.

A support level is the price range at which a technical analyst would expect the

demand for a stock to increase substantially.

Studies of stock price reactions to news are called

event studies.

The weak form of the efficient market hypothesis asserts that

future changes in stock prices cannot be predicted from past prices and technicians cannot expect to outperform the market

Two basic assumptions of technical analysis are that security prices adjust

gradually to new information and market prices are determined by the interaction of supply and demand.

Studies of mutual fund performance

indicates both that one should not randomly select a mutual fund and that historical performance is not necessarily indicative of future performance.

If stock prices follow a random walk

price changes are random.

Your professor finds a stock-trading rule that generates excess risk-adjusted returns. Instead of publishing the results, she keeps the trading rule to herself. This is most closely associated with ________.

selection bias

If you believe in the _________ form of the EMH, you believe that stock prices reflect all available information, including information that is available only to insiders.

strong

The stock market follows a __________.

submartingale

The weak form of the efficient market hypothesis contradicts

technical analysis, but is silent on the possibility of successful fundamental analysis.

Chartists practice

technical analysis.

The main difference between the three forms of market efficiency is that

the definition of information differs.

The debate over whether markets are efficient will probably never be resolved because of ________.

the lucky event issue, magnitude issue, and selection bias issue

Studies of positive earnings surprises have shown that there is

both a positive abnormal return on the day positive earnings surprises are announced and a positive drift in the stock price on the days following the earnings surprise announcement.

According to proponents of the efficient market hypothesis, the best strategy for a small investor with a portfolio worth $40,000 is probably to

invest in mutual funds.

__________ the return on a stock beyond what would be predicted from market movements alone.

An abnormal return is

The difference between a random walk and a submartingale is the expected price change in a random walk is ______ and the expected price change for a submartingale is ______.

zero; positive

A finding that _________ would provide evidence against the semistrong form of the efficient market theory.

low P/E stocks tend to have positive abnormal returns and one can consistently outperform the market by adopting the contrarian approach exemplified by the reversals phenomenon

A hybrid strategy is one where the investor

maintains a passive core and augments the position with an actively managed portfolio.

If you believe in the ________ form of the EMH, you believe that stock prices reflect all relevant information including historical stock prices and current public information about the firm, but not information that is available only to insiders.

semistrong