Economics 136. Financial Economics
Midterm 2, Fall 2009
Write your name, your GSI°s name and your section time on your blue book. You may
use a calculator and two double sided sheets of handwritten notes.
1. True or false.
(25 points, 5 each)
Are the following statements true or false? Explain your answer in no more than two
sentences. You will be graded on your explanation.
(i) Historically, low dividendprice ratios of the S&P 500 have predicted high (positive)
subsequent price growth and essentially no subsequent change in dividends.
(ii) The following fact violates the semistrong form of the e¢ cient markets hypothesis:
prices of companies tend to increase a few days before public announcement of good news.
(iii) Historically, stocks with high priceearnings ratios have outperformed stocks with
low priceearnings ratios.
(iv) The e¢ cient market hypothesis implies that the expected return of a call option
must be the same as the expected return of the underlying stock.
(v) Evans Hall is more beautiful than the Golden Gate bridge. [Only if you have time;
all answers, including leaving it blank, are accepted!]
2. CAL and portfolio choice
(25 points, 5 each)
[Note:
use natural units in your solution:
e.g., a standard deviation of 20% means
°
= 0
:
2
and
°
2
= 0
:
2
2
= 0
:
04
.]
You are a ±nancial advisor who works with two assets: a stock index and a riskfree asset.
The expected return of stocks is 12%, and the standard deviation is 20%. The riskfree return
is 2%. You are advising a riskaverse client who has meanvariance preferences.
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 Fall '08
 SZEIDL
 Standard Deviation, Variance, Probability theory

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