LS 10: Some Lessons from Capital Market History

If the arithmetic average return is 10% and the variance of returns is 0.05, find the approximate geometric mean.

0.10 - 0.05/2 = 0.075 or 7.5%

1. True or false: A capital loss is the same thing as a negative capital gain.

1. True

A dividend yield of 10% says that, for each dollar we invest, we get _______ cents in dividends.

10

The arithmetic mean for large-company stock returns from 1926 to 2017 is:

12.1%

The standard deviation for large-company stock returns from 1926 to 2017 is:

19.8%

2. True or false: The dividend yield = Dt+1/Pt

2. True

The probability of an outcome being at least 2 standard deviations below the mean in a normal distribution is approximately:

2.5%

3. True or false: The capital gains yield = (Pt+1 - Pt)/Dt

3. False

4. True or false: To get the average return, the yearly returns are summed and then multiplied by the number of returns.

4. False

5. True or false: The dividend yield minus the capital gains yield is the total return percentage.

5. False

6. True or false: To get the average return, the yearly returns are summed and then multiplied by the number of returns.

6.False

The probability of a return being within ± one standard deviation of the mean in a normal distribution is approximately ___ percent.

68

7. True or false: The smaller the variance or standard deviation is, the more spread out the returns will be.

7. False

8. True or false: The geometric average rate of return measures the return in an average year over a given period.

8. False

9. True or false: The geometric average rate of return measures the return in an average year over a given period.

9. False

Which type of stock price adjustment time path occurs when there is a bubble (price run up) in the path followed by a decline after the market receives information about the stock?

Overreaction and correction

In an efficient market ______ investments have a _____ NPV.

all; zero

A positive capital gain on a stock results from ___.

an increase in price

The dividend yield for a one-year period is equal to the annual dividend amount divided by the ____.

beginning stock price

The percentage change in the price of a stock over a period of time is called its ___________.

capital gain yield

The total dollar return is the sum of dividends and __________.

capital gains or losses

When a company declares a dividend, shareholders generally receive ____.

cash

The total return percentage is the __________yield plus the capital gains yield.

dividend

The total return percentage is the _________yield plus the capital gains yield.

dividend

The total return percentage is the________ yield plus the capital gains yield.

dividend

The two potential ways to make money as a stockholder are through _______ and capital appreciation.

dividends

Which of the following are ways to make money by investing in stocks?

dividends capital gains

The total dollar return on a stock is the sum of the ____ and the _____.

dividends; capital gains

The ______ rate of return is the difference between the rate of return on a risky asset and the risk-free rate of return.

excess

In an efficient market, firms should expect to receive ______ value for securities they sell.

fair

An efficient market is one in which any change in available information will be reflected in the company's stock price ___.

immediately

Dividends are the ______ component of the total return from investing in a stock.

income

An efficient market is one that fully reflects all available ______.

information

Stock prices fluctuate from day to day because of:

information flow

The capital gains yield can be found by finding the difference between the ending stock price and the initial stock price and dividing it by the:

initial stock price

If the dispersion of returns on a particular security is very spread out from the security's mean return, the security ____.

is highly risky

To get the average, or _________return, the yearly returns are summed and then divided by the number of returns.

mean

The normal distribution is completely described by the _______ and ________.

mean variance or standard deviation

If you use an arithmetic average to project long-run wealth levels, your results will most likely be _______.

optimistic

If you use a geometric average to project short-run wealth levels, your results will most likely be _______ .

pessimistic

Normally, the excess rate of return is ___.

positive

Historically, the real return on Treasury bills has been:

quite low

The arithmetic average rate of return measures the ____.

return in an average year over a given period

If a study of a firm's financial information will not lead to gains in the market, then the market must be at least _____ efficient

semi-strong form

Geometric averages are usually ______ arithmetic averages.

smaller than

The standard deviation is the ______ of the variance.

square root

Some important characteristics of the normal distribution are that it is:

symmetrical bell-shaped

Two ways of calculating average returns are _______ and _______.

the arithmetic average the geometric average

The geometric average rate of return is approximately equal to ___.

the arithmetic mean minus half of the variance

Average returns can be calculated:

two different ways

The square of the standard deviation is equal to the ____.

variance

If a study of past stock prices and volume to find mis-priced securities will not lead to gains in the market, then the market must be at least _____ efficient.

weak-form

The efficient markets hypothesis contends that _____________ capital markets such as the NYSE are efficient.

well-organized

If the market changes and stock prices instantly and fully reflect new information, which time path does such a change exhibit?

An efficient market reaction

Treasury Bills yielded a nominal average return over 86 years of 3.5% versus an average inflation rate of 3.0% over the same period. This makes the real return on T-bills approximately equal to _____.

3.5%-3.0%=0.5%