MGF301 Spring 2010 Assignment 3 - answers

MGF301 Spring 2010 Assignment 3 - answers - Question 1 A 1...

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Unformatted text preview: Question 1 A 1 2 3 4 5 6 7 8 9 10 11 12 B C (a) Ford Walmart Beta 2.67 0.20 Rf 0.01 0.01 (b) Walmart has a lower expected return because Walmart has a low level o when the economy goes into a recession, Walmart does not fall as much as gains customers in a recession. In contrast, Ford has a high level of market are heavily dependent on the state of the economy. So Ford has a higher e for the extra market risk. Page 1 Question 1 D 1 2 3 4 5 6 7 E F G E(Rm) 0.09 0.09 E(r)=Rf - Beta(E(Rm)-Rf) 0.22 0.03 8 use Walmart has a low level of market risk. In other words, 9 lmart does not fall as much as the market because Walmart 10 ord has a high level of market risk because sales of new cars 11 nomy. So Ford has a higher expected return to compensate 12 Page 2 Question 2(a) #4 (a) An example of a company with an announcement that caused the stock price to increase by m shown below. The news was that the company had successfully arranged for an increased line of cr was available before the market opened for trading on Friday. So Wed, Thur were the two days bef and Friday was the day the announcment was first reflected in the price. In terms of market efficien reaction to the information because the price jumped immediately. After the initial jump, however, be a bit of an under-reaction as the price kept climbing, followed by an over-reaction because price over the next day. Both the delayed intial reaction and the downward movement of price the day aft Question 2(a) 2. Geothermal corporation issued a press release before the stock market opened announcing that its earnings have d 4(b) This announcement is not consistent with the strong form of market efficiency bec the market would have already reacted to the news before it was announced publicly. So reaction to the public annoucement of information that was known privately to some inv Explain how the following individual scenarios can be consistent with the semi-strong form of market efficiency. (a) When trading opened after the announcement and throughout the fir (b) The stock price of Geothermal increased slowly over the 30 days be (c) The stock price decreased by 10% immediately following the annou 5(a). It is consistent with semi-strong market efficiency if there is no price reaction to news is no new information being revealed. In other words, if market investors expected earning by 30%, then there is no new information revealed when earnings are announced as decre 5(b). The slow increase in stock price before the announcement does not violate the semi market efficiency if there were no events over that period where news was announced. In if the overall market has slowly increased over this period, then the stock of Geothermal w increase and it does not violate the semi-strong form of market efficiency. Only if there wa public announcement and a subsequent slow price reaction to the announcement would th 5(c). The only way this can be consistent with the semi-strong form is if the initial price dec then additional good news comes out during the day that causes the price to increase (or t in the price of oil throughout the day which, in an efficient market, would cause a steady in Question 2(a) d the stock price to increase by more than 1% is FMT ranged for an increased line of credit. This news ed, Thur were the two days before the announcement price. In terms of market efficiency, there was a quick After the initial jump, however, there appears to y an over-reaction because price trended down rd movement of price the day after the announcement are inconsistent with market efficiency. Question 2(a) ed announcing that its earnings have decreased by 30% over the last year earnings. orm of market efficiency because under the strong form, it was announced publicly. So there would be no known privately to some investors under the strong form. i-strong form of market efficiency. e announcement and throughout the first day, there was no stock price change after the company announced the 30% decrease i al increased slowly over the 30 days before the announcement of the 30% decrease in earnings. 10% immediately following the announcement but then increased throughout the day so that the closing price was only 2% abo re is no price reaction to news when there ket investors expected earnings to decrease nings are announced as decreasing 30%. ent does not violate the semi-strong form of ere news was announced. In other words, en the stock of Geothermal would be expected to et efficiency. Only if there was a to the announcement would there be a violation of the theory. g form is if the initial price decrease is to the correct level after the announcement, but ses the price to increase (or the market itself goes up). An example would be a slow increase rket, would cause a steady increase in the price of a stock that benefits from a higher oil price. Question 2(a) Question 2(a) unced the 30% decrease in earnings. ng price was only 2% above the previous day. a slow increase higher oil price. 1 (a) Percentage Return = ((34*20000) - (42*20000) + (.60*20000))/(42*20000) Percentage Return = (b) Dividend Yield = (.6*20000)/(42*20000) Dividend Yield = 0.014 or 1.4% -0.176 or -17.6% Percentage Capital Gain = ((34*20000) - (42*20000))/(42*20000) Percentage Capital Gain = (c ) 1 + real return = (1 + nominal return)/(1+ inflation rate) 1 + real return = real return = 79.98% -20.02% -0.190 or -19.0% 1 0))/(42*20000) (a) Price (each outcome) $2 $26 $36 $45 $60 Probability 10% 20% 30% 30% 10% Actual Return -94% -19% 13% 41% 88% Expected Return (b) Actual Return -93.75% -18.75% 12.50% 40.63% 87.50% Expected Variance Standard Deviation r - E(r ) -105.31% -30.31% 0.94% 29.06% 75.94% (r - E(r ))^2 p x (r-E(r )^2) 110.91% 9.19% 0.01% 8.45% 57.67% 11.09% 1.84% 0.00% 2.53% 5.77% 21.23% 46.08% =pxR -9.4% -3.8% 3.8% 12.2% 8.8% 11.56% 0.46 ...
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This note was uploaded on 07/07/2010 for the course MGF 301 taught by Professor Mohr during the Spring '08 term at SUNY Buffalo.

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