FIN Exam 2 (Ch. 12)

inefficient

- An investor evaluated a firm's past stock data and determined that the price always rose on the Tuesday after a 3-day weekend - She purchased the stock on the Friday before such a weekend and sold it on Tuesday for an abnormally large gain This outcome suggests that the market is...

Semi-strong form efficient

- An investor overheard the CFO reveal private, positive information about a firm - She purchased the firm's stock immediately and sold it for an abnormally large gain once the private information was published - This outcome suggests that the market is...

Weak form efficient

- An investor read good news in the WSJ about a firm early this morning - She purchased the firm's stock immediately and sold it later in the day for an abnormally large gain - his outcome suggests that the market is...

weak form market efficiency

- Security prices reflect all information found in past prices and trading volume - If the weak form of market efficiency holds, technical analysis is of no value; investors cannot earn abnormal returns by studying past data - Since stock prices respond only to new information, which by definition arrives randomly, stock prices are said to follow a "random walk"

Strong form market efficiency

- Security prices reflect all information—public and private - Strong form efficiency says that anything pertinent to the stock price and known to at least one investor is already incorporated into the security's price - If the strong form holds, even private (inside) information is of no value

semi-strong form market efficiency

- Security prices reflect all publicly available information, including: - Historical price and volume information - Published accounting statements - Information found in annual reports - Press releases and news articles - If the semi-strong form of market efficiency holds, published information is of no value

efficient market hypothesis (EMH) implications

- because information is instantly reflected in stock prices, learning information when it is released has little to no benefit - firms should expect to receive the fair value for securities that they sell, but cannot profit by fooling investors

treasury notes/bonds

- long term instruments (mature in up to 30 years) - pay semi-annual coupons like corporate bonds free of default risk

treasury bills

- short term instruments (mature in a year or less) - do not pay interest; rather, they are sold at a discount from face value

arithmetic mean

- the average return earned in any particular year - necessary to calculate standard deviation - overly optimistic

geometric average

- the equivalent compound annual growth rate - employed in TVM calculations - overly pessimistic for short time horizons

10 to 20

A projected IRR on a risky investment in the _____ percent range is not unusual.

Blume's formula

If you are forecasting a few decades in the future (as you might do for retirement planning) you should calculate the expected return using:

high; low

In general, the arithmetic average return is probably too _____ (low/high) for longer periods and the geometric average is probably too _____ (low/high) for shorter periods.

strong

Kate Corporation has discovered a very secret new product, but hasn't yet announced the discovery to the public. If the stock price reacts before the announcement (assuming no corporate "leaks"), the market is _____ form efficient.

reward to risk

The Sharpe ratio measures ___.

equity risk premium

The difference between the rate earned on equity investments (risky) and 90-day T-bills (risk-free) is called the The extra reward investors want to earn for taking the risk.

weak form

all historical information is already captured and reflected in a stocks price

strong form

all information - both public and private - is already captured and reflected in a stock's price

semi-strong form

all publicly available information is already captured and reflected in a stocks price

In an efficient market:

in an ___________ market: all investments are zero NPV investments assets are priced at the present value of their future cash flows

standard deviation

measures the total stand-alone risk of an investment measures total risk

Sharpe

ratio is calculated as the risk premium of the asset divided by the standard

risk-free rate

real risk \-free rate + infaltion

efficient capital market

stock prices full reflect available information - there are no surprises

compounding

the arithmetic mean, while accurate, ignored the impact of __________

risk

the chance things don't turn out the way we thought they would. it is the variation from the expect result. whether the variation is positive or negative.

abnormal return

the difference between the markets return on a particular day, and a given stocks return on that same day

geometric average

the single per-period return that gives the same cumulative performance as the sequence of actual returns