Deck 11: The Efficient Market Hypothesis

Question 1

Patell and Wolfson show that most of the stock price response to corporate dividend or earnings announcements occurs

A)within 10 hours of the announcement.
B)within 10 days of the announcement.
C)within 10 minutes of the announcement.
D)within 10 seconds of the announcement.

Answer 1

C

Question 2

The stock market follows a

A)nonrandom walk.
B)random walk
C)predictable pattern that can be exploited.
D)nonrandom walk and predictable pattern that can be exploited.

Answer 2

B

Question 3

If you believe in the ________ form of the EMH, you believe that stock prices reflect all relevant information, including historical stock prices and current public information about the firm, but not information that is available only to insiders.

A)semistrong
B)strong
C)weak
D)All of the options are correct.

Answer 3

A

Question 4

If you believe in the _______ form of the EMH, you believe that stock prices only reflect all information that can be derived by examining market trading data, such as the history of past stock prices, trading volume or short interest.

A)semistrong
B)strong
C)weak
D)All of the options are correct.

Question 5

A support level is the price range at which a technical analyst would expect the

A)supply of a stock to increase dramatically.
B)supply of a stock to decrease substantially.
C)demand for a stock to increase substantially.
D)demand for a stock to decrease substantially.

Question 6

If you believe in the _________ form of the EMH, you believe that stock prices reflect all available information, including information that is available only to insiders.

A)semistrong
B)strong
C)weak
D)All of the options are correct.

Question 7

_________ above which it is difficult for the market to rise.

A)A book value is a value
B)A resistance level is a value
C)A support level is a value
D)A book value and a resistance level are values

Question 8

A market decline of 23% on a day when there is no significant macroeconomic event ______ consistent with the EMH because ________.

A)would be; it was a clear response to macroeconomic news
B)would be; it was not a clear response to macroeconomic news
C)would not be; it was a clear response to macroeconomic news
D)would not be; it was not a clear response to macroeconomic news This happened on October 19, 1987.Although this specific event is not mentioned in this edition of the book, it is an example of something that would be considered a violation of the EMH.

Question 9

__________ focus more on past price movements of a firm's stock than on the underlying determinants of future profitability.

A)Credit analysts
B)Fundamental analysts
C)Systems analysts
D)Technical analysts Technicians attempt to predict future stock prices based on historical stock prices.

Question 10

An event study describes a technique of empirical financial research that

A)enables an observer to assess the impact of a particular event on a firm's risk.
B)enables an observer to assess the impact of a particular event on a firm's standard deviation.
C)enables an observer to assess the impact of a particular event on a firm's stock price.
D)enables an observer to assess the impact of a firm's return on risk of the market.

Question 11

Womack focuses on changes in analysts' recommendations and finds that

A)positive changes are associated with decreased increased stock prices of about 5%, and positive changes result in average price decreases of 11%.
B)positive changes are associated with increased stock prices of about 5%, and negative changes result in average price decreases of 11%.
C)positive changes are associated with increased stock prices of about 11%, and negative changes result in average price decreases of 5%.
D)negative changes are associated with increased stock prices of about 5%, and positive changes result in average price decreases of 11%.

Question 12

A common strategy for passive management is

A)creating an index fund.
B)creating a small firm fund.
C)creating an investment club.
D)creating an index fund and creating an investment club.

Question 13

If you believe in the reversal effect, you should

A)buy bonds in this period if you held stocks in the last period.
B)buy stocks in this period if you held bonds in the last period.
C)buy stocks this period that performed poorly last period.
D)go short.

Question 14

_________ below which it is difficult for the market to fall.

A)An intrinsic value is a value
B)A resistance level is a value
C)A support level is a value
D)An intrinsic value and a resistance level are values

Question 15

The abnormal return due to an event is estimated as the difference between

A)the stock's actual return and stock's expected return.
B)the stock's actual return and the risk-free rate.
C)the stock's expected return and a benchmark.
D)the stock's actual return and a benchmark.

Question 16

When Maurice Kendall examined the patterns of stock returns in 1953, he concluded that the stock market was __________.Now, these random price movements are believed to be _________.

A)inefficient; the effect of a well-functioning market
B)efficient; the effect of an inefficient market
C)inefficient; the effect of an inefficient market
D)efficient; the effect of a well-functioning market

Question 17

The weak form of the efficient-market hypothesis contradicts

A)technical analysis but supports fundamental analysis as valid.
B)fundamental analysis but supports technical analysis as valid.
C)both fundamental analysis and technical analysis.
D)technical analysis but is silent on the possibility of successful fundamental analysis.

Question 18

Studies of stock price reactions to news are called

A)reaction studies.
B)event studies.
C)drift studies.
D)reaction studies and event studies.

Question 19

Proponents of the EMH typically advocate

A)buying individual stocks on margin and trading frequently.
B)investing in hedge funds.
C)a passive investment strategy.
D)buying individual stocks on margin, trading frequently, and investing in hedge funds.

Question 20

On November 22, the stock price of WalMart was $69.50, and the retailer stock index was 600.30.On November 25, the stock price of WalMart was $70.25, and the retailer stock index was 605.20.Consider the ratio of WalMart to the retailer index on November 22 and November 25.WalMart is _______ the retail industry, and technical analysts who follow relative strength would advise _______ the stock.

A)outperforming; buying
B)outperforming; selling
C)underperforming; buying
D)underperforming; selling

Question 21

Which of the following are investment superstars who have consistently shown superior performance? I) Warren Buffet
II. Phoebe Buffet
III. Peter Lynch
IV. Merrill Lynch
V. Jimmy Buffet

A)I, III, and IV
B)II, III, and IV
C)I and III
D)III and IV

Question 22

When Maurice Kendall first examined stock price patterns in 1953, he found that

A)certain patterns tended to repeat within the business cycle.
B)there were no predictable patterns in stock prices.
C)stocks whose prices had increased consistently for one week tended to have a net decrease the following week.
D)stocks whose prices had increased consistently for one week tended to have a net increase the following week.

Question 23

One of the most commonly heard components of technical analysis is the notion of a resistance level, which refers to

A)price levels below which it is unlikely for them to fall.
B)price levels above which it is difficult for stock prices to rise.
C)stock performance over a recent period to performance of the market or other stocks in the same industry.
D)the present discounted value of all the payments a stockholder will receive from each share of stock.

Question 24

Nicholas Manufacturing just announced yesterday that its fourth quarter earnings will be 10% higher than last year's fourth quarter.Nicholas had an abnormal return of -1.2% yesterday.This suggests that

A)the market is not efficient.
B)Nicholas' stock will probably rise in value tomorrow.
C)investors expected the earnings increase to be larger than what was actually announced.
D)investors expected the earnings increase to be smaller than what was actually announced.

Question 25

In an efficient market the correlation coefficient between stock returns for two nonoverlapping time periods should be

A)positive and large.
B)positive and small.
C)zero.
D)negative and small.

Question 26

Matthews Corporation has a beta of 1.2.The annualized market return yesterday was 13%, and the risk-free rate is currently 5%.You observe that Matthews had an annualized return yesterday of 17%.Assuming that markets are efficient, this suggests that

A)bad news about Matthews was announced yesterday.
B)good news about Matthews was announced yesterday.
C)no news about Matthews was announced yesterday.
D)interest rates rose yesterday.

Question 27

Which of the following are used by fundamental analysts to determine proper stock prices? I) Trendlines
II. Earnings
III. Dividend prospects
IV. Expectations of future interest rates
V. Resistance levels

A)I, IV, and V
B)I, II, and III
C)II, III, and IV
D)II, IV, and V

Question 28

The main difference between the three forms of market efficiency is that

A)the definition of efficiency differs.
B)the definition of excess return differs.
C)the definition of prices differs.
D)the definition of information differs.

Question 29

Music Doctors just announced yesterday that its first quarter sales were 35% higher than last year's first quarter.You observe that Music Doctors had an abnormal return of -2% yesterday.This suggests that

A)the market is not efficient.
B)Music Doctors stock will probably rise in value tomorrow.
C)investors expected the sales increase to be larger than what was actually announced.
D)investors expected the sales increase to be smaller than what was actually announced.

Question 30

Chartists practice

A)technical analysis.
B)fundamental analysis.
C)regression analysis.
D)insider analysis.

Question 31

LJP Corporation just announced yesterday that it would undertake an international joint venture.You observe that LJP had an abnormal return of 3% yesterday.This suggests that

A)the market is not efficient.
B)LJP stock will probably rise in value again tomorrow.
C)investors view the international joint venture as bad news.
D)investors view the international joint venture as good news.

Question 32

The weather report says that a devastating and unexpected freeze is expected to hit Florida tonight during the peak of the citrus harvest.In an efficient market, one would expect the price of Florida Orange's stock to

A)drop immediately.
B)unable to determine.
C)increase immediately.
D)gradually decline for the next several weeks.

Question 33

If stock prices follow a random walk,

A)it implies that investors are irrational.
B)it means that the market cannot be efficient.
C)price levels are not random.
D)price changes are random.

Question 34

Which of the following are used by technical analysts to determine proper stock prices? I) Trendlines
II. Earnings
III. Dividend prospects
IV. Expectations of future interest rates
V. Resistance levels

A)I and V
B)I, II, and III
C)II, III, and IV
D)II, IV, and V

Question 35

QQAG just announced yesterday that its fourth quarter earnings will be 35% higher than last year's fourth quarter.You observe that QQAG had an abnormal return of -1.7% yesterday.This suggests that

A)the market is not efficient.
B)QQAG stock will probably rise in value tomorrow.
C)investors expected the earnings increase to be larger than what was actually announced.
D)investors expected the earnings increase to be smaller than what was actually announced.

Question 36

Google has a beta of 1.0.The annualized market return yesterday was 11%, and the risk-free rate is currently 5%.You observe that Google had an annualized return yesterday of 14%.Assuming that markets are efficient, this suggests that

A)bad news about Google was announced yesterday.
B)good news about Google was announced yesterday.
C)no news about Google was announced yesterday.
D)interest rates rose yesterday.

Question 37

QQAG has a beta of 1.7.The annualized market return yesterday was 13%, and the risk-free rate is currently 3%.You observe that QQAG had an annualized return yesterday of 20%.Assuming that markets are efficient, this suggests that

A)bad news about QQAG was announced yesterday.
B)good news about QQAG was announced yesterday.
C)no significant news about QQAG was announced yesterday.
D)interest rates rose yesterday.

Question 38

Two basic assumptions of technical analysis are that security prices adjust

A)rapidly to new information, and market prices are determined by the interaction of supply and demand.
B)rapidly to new information, and liquidity is provided by security dealers.
C)gradually to new information, and market prices are determined by the interaction of supply and demand.
D)gradually to new information, and liquidity is provided by security dealers.

Question 39

Music Doctors has a beta of 2.25.The annualized market return yesterday was 12%, and the risk-free rate is currently 4%.You observe that Music Doctors had an annualized return yesterday of 15%.Assuming that markets are efficient, this suggests that

A)bad news about Music Doctors was announced yesterday.
B)good news about Music Doctors was announced yesterday.
C)no news about Music Doctors was announced yesterday.
D)interest rates rose yesterday.

Question 40

Studies of mutual fund performance

A)indicate that one should not randomly select a mutual fund.
B)indicate that historical performance is not necessarily indicative of future performance.
C)indicate that professional management of the fund insures above market returns.
D)indicate that one should not randomly select a mutual fund and indicate that historical performance in not necessarily indicative of future performance.

Question 41

The Food and Drug Administration (FDA) just announced yesterday that they would approve a new cancer-fighting drug from King.You observe that King had an abnormal return of 0% yesterday.This suggests that

A)the market is not efficient.
B)King stock will probably rise in value tomorrow.
C)King stock will probably fall in value tomorrow.
D)the approval was already anticipated by the market. The approval was already anticipated by the market.

Question 42

Patell and Woflson (1984) report that most of the stock-price response to corporate dividend or earnings announcements occurs within ____________ of the announcement.

A)10 minutes
B)45 minutes
C)2 hours
D)4 hours