Chapter 9 Recharge

Demonstrating the pervasiveness of overconfidence, despite strong evidence to active management under-performance, indexing accounts for what percentage of the overall equity held in the mutual fund industry?

25%

A financial analyst observes the price of Red Line Company shares seems to be consistently $1.00 to $2.00 higher than its intrinsic value. This distortion is most likely to cause: - A misallocation of capital market resources to Red Line and away from its competition - An efficient allocation of resources across all firms in Red Line's industry

A misallocation of capital market resources to Red Line and away from its competition

The main reason that investors should be aware of behavioral issues in portfolio management is to: - Increase the size of the portfolio by adding securities that conform to behavioral finance standards - Avoid making information processing errors - Reduce the probability of losses of the entire portfolio

Avoid making information processing errors

A trin stat that is considered bullish would - Exceed 10 - Be less than 0 - Be less than 1 - Exceed 1

Be less than 1

Patrick Dill is a technical analyst who trades based on historical price movements together with company announcements. Today, Dill buys shares in Blue Golf Company which announced last week that it was expanding into Mexico. Dill most likely believes: - Blue Golf shares respond gradually to the announcement - The Blue Gold expansion will be successful

Blue Golf shares respond gradually to the announcement

Use of the confidence index is based on the assumption that the ______ provides information about future equity returns - Ratio of puts to calls - Level of short selling - Bond market

Bond market

The extent to which movements in broad markets indexes are reflected widely in movements of the individual stock prices is known as

Breadth

The tendency for investors to too slowly update their beliefs in response to new evidence is called

Conservatism bias

Contrarian investors believe it is a good time to sell when there is a ________ in the put/call ratio

Decrease

Jon Grimm is a technician who has observed an increase in the put call ratio. Grimm is likely to view this change as an indication that markets will - Stay the same - Fall - Rise

Fall

An investor decides to purchase shares of stock in a firm based solely on the fact that the firm bought the naming rights to a new professional stadium located right near the investor's home. This irrational decision is most likely attributed to - Sub optimization - Faulty information

Faulty information

A decision that is affected by how the choices are presented is said to be subject to

Framing

Jack and Martha watch two different weather stations before departing for work. One station reports a 50% chance of rain and Jack takes his umbrella to work. The other station reports a 50% chance of no rain and Martha leaves her umbrella at home. The difference in decisions made by Jack and Martha can be attributed to: - Avoidance of regret - Framing - Mental accounting

Framing

John King is saving for a new house he wants to build in two years and has invested in what he believes is an undervalued financial asset. King believes the asset will double in value. Which of the following limitations might prevent King from achieving his goal? - Model error - Implementation costs - Fundamental risk

Fundamental risk

The potential risk that a mispriced security takes too long to converge to intrinsic value is known as - Technical risk - Model risk - Fundamental risk

Fundamental risk

Individuals have limited time and attention and may rely on intuitive decision-making procedures known as

Heuristics

An analyst observes the ratio of AA rated bond yields to B rated bond yields to be 95%, which is an indication of - Low confidence - High confidence

High confidence

What are the two generally accepted irrational behavior categories that behavioral finance observes? - Investors tend to seek out investments that maximize risk while minimizing expected return - Investors make inconsistent or systematically suboptimal decisions - Investors do not always process information correctly and have incorrect probability distributions about future rates of returns

Investors make inconsistent or systematically suboptimal decisions and investors do not always process information correctly and have incorrect probability distributions about future rates of returns

Behavioral finance is based on the assumption that some investors are

Irrational

Rachel Wills is a high net worth investor who has different accounts for different objectives. Wills has an account for her daughter's education, an account for annual summer vacations, and an account for for annual trip to gamble in Las Vegas. Wills most likely suffers from: - Mental accounting - Framing - Regret avoidance

Mental accounting

Ron Oort invests in a high risk financial asset to help him achieve his goal of buying a speed boat in five years. This asset is much riskier than his retirement portfolio. This is an example of

Mental accounting

One risk faced by investors is _______ risk, where an apparent profit opportunity is more apparent than real

Model

Pete Link uses historical returns and regression analysis to locate under valued stocks. Link buys share in any company in which a specific regression parameter is less than 1.0. The most likely reason Link might not earn superior returns is: - Model risk - Implementation costs

Model risk

Recent events are typically more salient to investors; this salience leads investors to __________ recent events - React perfectly rationally to - Overreact to - Underreact to - Ignore

Overreact to

Technical analysis attempt to exploit __________ in stock prices to generate superior investment performance

Patterns

Differentiating itself from traditional financial fields, behavioral finance uniquely relies on what field of study to help develop its theories of behavior?

Psychology

Bill Hatts is a technical analyst who uses the price of individual securities and an index of securities in specific sectors to identify undervalued securities. If Hatts computes a ratio of those two numbers, he is most likely using: - Trin statistic - Relative strength - Breadth

Relative strength

The moving average share price of Potts Electric has shifted from being higher than the share price to being lower. A technical analyst would most likely view this as a sign of ______ stock prices - Rising - Unchanging - Falling

Rising

Ellen Ways exhibits behavior consistent with prospect theory. Which of the following would characterize the risk attitude of Ways? - She is loss averse - She is risk averse

She is loss averse

Fundamental risk affects closed end funds in which of the following ways? - Closed end funds will never sell at a premium - The fund can sell at a discount and the discount could increase

The fund can sell at a discount and the discount could increase

Jan Peck is a technical analyst who firmly believes in momentum. Peck is likely to view a specific stock as being overvalued when: - The moving average is lower than the current stock price - The moving average is higher than the current stock price

The moving average is higher than the current stock price

The trin statistic is - The ratio of average trading volume in advancing issues to average volume in declining issues - The ratio of average trading volume in declining issues to average volume in advancing issues - The multiple of average trading volume in declining issues times average volume in advancing issues - The ratio of total trading volume in declining issues to total volume in advancing issues

The ratio of average trading volume in declining issues to average volume in advancing issues

According to De Bondt and Thaler (1987) regret avoidance is consistent with both - The size effect - Mean reversion - The book-to-market effect - The price/earnings effect

The size effect and the book-to-market effect

Wilson Fund is a closed end mutual fund that sells at a discount from its NAV. The most likely reason for this discount is: - Wilson is subject to extensive arbitrage opportunities for investors - Wilson has more volatility due to the specific composition of its portfolio

Wilson has more volatility due to the specific composition of its portfolio