- Market phenomena that would appear to contradict the efficient market hypothesis would include all of the following except:
- The fact that stock prices rebound in the first month of the new year.
- The fact that all information about a company available in the public domain would seem to preclude the opportunity to outperform the market.
- That firms generate higher returns, ceteris paribus, if they happen to have a lower price/earnings multiple.
- That a dearth of analyst coverage would tend to represent a opportunity for stock pickers to exploit a mispricing.
- One may define the efficient frontier as:
- The asset allocation with the lowest return for the level of risk assumed.
- That point on the risk/return continuum where one assumes the lowest level of risk for the amount of return generated.
- Where on the risk spectrum the allocation of assets would generate the greatest return for the level of risk assumed.
- Both b. & c.
- Behavioral finance:
- Further refines the notion of market efficiency.
- Posits that investors are given to traits such as overconfidence, a myopic view of the markets and a tendency to overreact to market events.
- Assumes risk and return are positively correlated.
- Could explain why seemingly different markets' and assets classes' correlations tend to approach 1 in times of uncertainty and turbulence.
- Both b & d
- The strong form of the Efficient Market Hypothesis indicates that stock prices fully reflect:
- All publicly available information.
- Public, market, insider and future information.
- Market only.
- Markets and fundamental company data.
- According to the Efficient Market Hypothesis:
- Portfolio managers' role decreases the likelihood that investors can add alpha.
- The pursuit of diversification is worthwhile.
- Active management adds little value overall.
- All of the foregoing.
- With respect to the security market line (SML) and the capital market line (CML):
- The security market line uses standard deviation as the risk measure while the capital market line uses beta as the risk measure.
- The capital market line provides a big picture view of risk and return, whereas the SML is used to price portfolios and individual securities.
- SML involves the risk premium concept, but CML does not.
- None of the foregoing.
Review Questions 7 - 12
MarketsThe capital market line (CML) depicts the level of additional return above the risk-free rate for each change in the level of risk.
TradingMarket efficiency theory states that a stock’s price will fully reflect all available and relevant information at any given time.
ETFs & Mutual FundsDeciding whether it's possible to attain above-average returns requires an understanding of EMH.
InvestingFInancial advisors and wealth management firms use a variety of tools based in Modern portfolio theory to quantify investment risk.
Managing WealthLearn how the bet against beta strategy is used by a large hedge fund to profit from a pricing anomaly in the stock market caused by high stock prices.
TradingRisk is inseparable from return. Learn more about these measures and how to balance them.
TradingThe efficient market hypothesis (EMH) suggests that stock prices fully reflect all available information in the market. Is this possible?
TradingSee why investors today still follow this old set of principles that reduce risk and increase returns through diversification.
TradingLearn about how risk parity uses leverage to create equal exposure to risk among different asset classes in portfolio construction.
Managing WealthFind out if mutual fund managers can successfully pick stocks or if you're better off with an index fund.