Question 1

Valuable financing opportunities can be created by:
A)fooling investors.
B)reducing costs or increasing subsidies.
C)the creation of a new security.
D)A and B.
E)A, B, and C.

Accepted Answer

The answer of Valuable financing opportunities can be created by:
A)fooling...

Question 2

In the five years after the offering, ___ underperform matched control groups.
A)initial public offerings
B)seasoned equity offerings
C)bond offerings
D)A and B
E)A, B, and C

Accepted Answer

The sentence mentions both initial public offerings (IPOs) and seasoned equity offerings (SEOs), suggesting that they are the types of offerings being referred to. The sentence does not mention bond offerings, so E can be eliminated. The use of "underperform matched control groups" suggests that the performance of the offerings is being compared to a control group, rather than simply evaluating the performance in isolation. Studies have shown that both IPOs and SEOs tend to underperform compared to similar control groups in the years following the offering, making D the most likely choice.

Question 3

Which of the following statements is true?
A)In efficient markets, a stock's price should change with the arrival of new information.
B)Average stock returns are higher in January than other months.
C)Studies by Fama and French and others find that returns of high book to market stocks are much higher than low book to market value stocks to be consistent with the efficient market hypothesis.
D)All of the above.
E)None of the above.

Accepted Answer

In efficient markets, stock prices reflect all available information and should change with new information (A). The January effect suggests higher average returns in January (B). Fama and French found that high book-to-market stocks have higher returns, which challenges the efficient market hypothesis (C). Thus, all statements are true.

Question 4

Define the three forms of market efficiency.

Accepted Answer

The answer of Define the three forms of market efficiency....

Question 5

Ritter's study of Initial Public Offerings (IPOs) showed that the post offering stock performance was:
A)less than the control group by about 2% in the five years following the IPO.
B)incorrectly priced at issuance because over the next five years the abnormal returns were greater than zero on average.
C)immaterial to the pricing of the IPO because future market performance is unknown at issuance.
D)equal across IPOs, irrespective of risk or which year they were issued.
E)All of the above.

Accepted Answer

Ritter's study found that the post-offering stock performance of IPOs was less than the control group by about 2% in the five years following the IPO. This suggests that the market tends to overvalue IPOs at issuance, leading to lower than expected returns for investors in the weeks and months following the offering.

Question 6

If the securities market is efficient, an investor need only throw darts at the stock pages to pick securities and be just as well off.
A)This is true because there are no differences in risk and return.
B)This is true because in an efficient stock market prices do not fluctuate.
C)This is false because professional portfolio managers prefer to generate commissions by active trading.
D)This is false because investors may not hold a desirable risk-return combination in their portfolio.
E)This is false because the markets are controlled by the institutional investors.

Accepted Answer

While an efficient market suggests that all publicly available information on a security is reflected in its current price, it does not mean that all securities have the same level of risk or return. As such, investors still need to make informed decisions about their risk-return preferences when building a portfolio, rather than randomly selecting securities.

Question 7

If the market is weak form efficient:
A)semistrong form efficiency holds.
B)strong form efficiency must hold.
C)semistrong form efficiency may hold.
D)markets are not weak form efficient.
E)None of the above.

Accepted Answer

If the market is weak form efficient, it means that historical prices and publicly available information are factored into the current market prices. This does not necessarily mean that all information, including non-public information, is factored into the price (strong form efficiency) or that all information including historical prices and publicly available information as well as insider information are factored into the price (semistrong form efficiency). Therefore, semistrong form efficiency may or may not hold.

Question 8

An example of financially irrational behavior is:
A)gambling in Las Vegas.
B)when a firm announces an increase in earnings and the stock price enjoys three days of large abnormal returns.
C)when a firm announces an increase in earnings and the stock price enjoys an immediate surge in value which is captured in one day.
D)Both A and B.
E)Both A and C.

Accepted Answer

Gambling in Las Vegas is financially irrational as it involves risking money with a high probability of loss. Additionally, when a firm announces an increase in earnings and the stock price enjoys three days of large abnormal returns, it suggests that investors are not fully rational in processing information, as efficient markets would adjust prices immediately.

Question 9

Do you think the lessons from capital market history will hold for each year in the future?
That is, as an example, if you buy small stocks will your investment always outperform
U.S.Treasury bonds?

Accepted Answer

The answer of Do you think the lessons from capital...

Question 10

Financial managers must be cognizant of market efficiency because:
A)manipulating earnings by accounting changes does not fool the market.
B)timing security sales is futile because without private information the current price reflects all known information.
C)there is limited price pressure from any large sale of stock depressing prices only momentarily before recovering to prior levels.
D)All of the above.
E)None of the above.

Accepted Answer

Market efficiency means that stock prices reflect all publicly available information. Therefore, manipulating earnings through accounting changes is unlikely to have a significant impact on the stock price because investors can see through the manipulation. Additionally, attempting to time security sales based on private information is also unlikely to be successful because the current stock price already reflects all publicly available information. Finally, market efficiency means that any large sale of stock will only have a temporary effect on prices before they recover to prior levels, so financial managers should not be overly concerned about short-term price movements.

Question 11

Explain why it is that in an efficient market, investments have an expected NPV of zero.

Accepted Answer

The answer of Explain why it is that in an...

Question 12

In the three years prior to a forced departure of management, stock prices, adjusted for market performance, on average will:
A)decline about 20%.
B)decline about 40%.
C)decline about 60%.
D)remain stable.
E)increase about 20%.

Accepted Answer

Studies have shown that in the three years prior to a forced departure of management, stock prices, adjusted for market performance, on average will decline about 40%.

Question 13

Event studies have been used to examine:
A)IPOs, SEOs, and other equity issuances.
B)changes in earnings.
C)mergers and acquisitions.
D)most financial events.
E)All of the above.

Accepted Answer

Event studies can be used to examine all of the above financial events.

Question 14

In examining the issue of whether the choice of accounting methods affects stock prices, studies have found that:
A)accounting depreciation methods can significantly affect stock prices.
B)switching depreciation methods can significantly affect stock prices.
C)accounting changes that increase accounting earnings also increases stock prices.
D)accounting changes can affect stock prices if the company were either to withhold information or provide incorrect information.
E)All of the above.

Accepted Answer

The answer of In examining the issue of whether the...

Question 15

The following time period(s) is/are consistent with the bubble theory:
A)the stock market crash of 1929.
B)the stock market crash of 1972.
C)the stock market crash of 1987.
D)A and C.
E)A, B, and C.

Accepted Answer

The bubble theory suggests that rapid increases in asset prices are not sustainable and eventually lead to a crash or bubble burst. The stock market crashes of 1929 and 1987 are both consistent with this theory as they were preceded by periods of rapidly increasing stock prices. The stock market crash of 1972 is not typically considered a bubble as it was a result of economic factors such as high inflation and political instability, rather than a sudden rise in asset prices.

Question 16

In order to create value from capital budgeting decisions, the firm is likely to:
A)locate an unsatisfied demand for a particular product or service.
B)create a barrier to make it more difficult for other firms to compete.
C)produce products or services at a lower cost than the competition.
D)A and C.
E)A, B, and C.

Accepted Answer

Creating value from capital budgeting decisions involves identifying unsatisfied demand (A), creating competitive barriers (B), and producing at lower costs (C), all of which can contribute to a firm's competitive advantage and profitability.

Question 17

Studies of the performance of professionally managed mutual funds find that these funds:
A)do not outperform a market index.Assuming mutual fund managers rely primarily on public information, this finding refutes the semistrong form of the efficient market hypothesis.
B)do not outperform a market index.Assuming mutual fund managers rely primarily on public information, this finding supports the semistrong form of the efficient market hypothesis.
C)outperform a market index.Assuming mutual fund managers rely primarily on public information, this finding refutes the semistrong form of the efficient market hypothesis.
D)outperform a market index.Assuming mutual fund managers rely primarily on public information, this finding supports the semistrong form of the efficient market hypothesis.
E)Both C and D.

Accepted Answer

Studies have consistently found that professionally managed mutual funds do not outperform a market index. Assuming that mutual fund managers rely primarily on publicly available information to make their investment decisions, this finding supports the semistrong form of the efficient market hypothesis, which states that all publicly available information is already reflected in stock prices. Therefore, it is difficult for mutual fund managers to consistently beat the market through their analysis and selection of individual stocks.

Question 18

Market efficiency says:
A)prices may not reflect underlying value.
B)a good financial manager can time stock sales.
C)managers may profitablly speculate in foreign currency.
D)managers cannot boost stock prices through creative accounting.
E)None of the above.

Accepted Answer

Market efficiency suggests that stock prices reflect all available information, so managers cannot sustainably boost stock prices through creative accounting.

Question 19

Which of the following is true?
A)Most empirical evidence is consistent with strong form efficiency.
B)Most empirical evidence is inconsistent with weak form efficiency.
C)Strong form market efficiency is not supported by the empirical evidence.
D)Both A and C.
E)Both B and C.

Accepted Answer

Empirical evidence does not support strong form market efficiency, which implies that all information public and private is already reflected in the stock prices. However, the evidence does support weak and semi-strong form market efficiency, which implies that stock prices already reflect all publicly available information, and that investors cannot consistently earn excess returns by using publicly available information.

Question 20

The abnormal returns for initial public offerings over longer time periods seem to call market efficiency into question because:
A)the average returns at announcement are large and positive while the long-term results are much lower than the returns for seasoned equity offerings.
B)the average returns at announcement are small and negative while the long-term results are much lower than the returns for seasoned equity offerings.
C)the average returns at announcement are zero while the long-term results are much higher than the returns for seasoned equity offerings.
D)the average returns at announcement are large and positive while the long-term results are much higher than the returns for seasoned equity offerings.
E)the average returns at announcement are insignificant while the long-term results are much lower than the returns for seasoned equity offerings.

Accepted Answer

The abnormal returns for initial public offerings over longer time periods are much lower than the returns for seasoned equity offerings, which implies that the initial positive abnormal returns are not sustainable and eventually dissipate over time. This challenges the idea of market efficiency, as investors should not be able to consistently earn abnormal returns if markets are truly efficient. Option A accurately reflects this phenomenon.

Quiz 14: Efficient Capital Markets and Behavioral Challenges

Valuable financing opportunities can be created by:

In the five years after the offering, ___ underperform matched control groups.

Which of the following statements is true?

Define the three forms of market efficiency.

Ritter's study of Initial Public Offerings (IPOs) showed that the post offering stock performance was:

If the securities market is efficient, an investor need only throw darts at the stock pages to pick securities and be just as well off.

If the market is weak form efficient:

An example of financially irrational behavior is:

Do you think the lessons from capital market history will hold for each year in the future? That is, as an example, if you buy small stocks will your investment always outperform U.S.Treasury bonds?

Financial managers must be cognizant of market efficiency because:

Explain why it is that in an efficient market, investments have an expected NPV of zero.

In the three years prior to a forced departure of management, stock prices, adjusted for market performance, on average will:

Event studies have been used to examine:

In examining the issue of whether the choice of accounting methods affects stock prices, studies have found that:

The following time period(s) is/are consistent with the bubble theory:

In order to create value from capital budgeting decisions, the firm is likely to:

Studies of the performance of professionally managed mutual funds find that these funds:

Market efficiency says:

Which of the following is true?

The abnormal returns for initial public offerings over longer time periods seem to call market efficiency into question because: