Chapter 12

Chapter 12 - Capital Market Efficiency -Chapter 12 12 Yihui...

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Capital Market Efficiency py h t 12 --Chapter 12 Yihui Wang Capital Market Efficiency
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Main Issues • Return, Risk and Financial Markets he Efficient Market Hypothesis • The Efficient Market Hypothesis Capital Market Efficiency 2
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Return • Dollar return t t P P P P ) ( 1 + t t t P P D Percentage return ou bought a stock for $35 and you received dividends 1 1 1 1 1 + = = t t t t t t t t t t P P P r (DY+cap. Gains Yield) You bought a stock for $35 and you received dividends of $1.25. The stock is now selling for $40. Dollar return = 1.25+(40 – 35)= $6.25 Percentage return = (1.25+40 – 35)/35 =17.86% • Dividend yield = 1.25 / 35 = 3.57% Capital Market Efficiency • Capital gains yield = (40 – 35) / 35 = 14.29% 3
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Capital Market Efficiency 4
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Capital Market Efficiency 5
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Capital Market Efficiency 6
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Risk-Return Trade-Off • Risk-return trade-off There is a reward for bearing risk The greater the potential reward, the greater the risk • Risk premium: the reward for bearing risk The “extra” return earned for taking on risk Treasury bills are considered to be risk-free The risk premium is the return over and above the risk-free rate Capital Market Efficiency 7
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Average Return and Risk Premium Investment Average Return Risk Premium Large stocks 12.3% 8.5% Small Stocks 17.4% 13.6% Long-term Corporate Bonds 6.2% 2.4% Long-term Government Bonds 5.8% 2.0% U.S. Treasury Bills .8% .0% y 3.8% 0.0% Capital Market Efficiency 8
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Return As Random Variable Capital Market Efficiency 9
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How to Measure Risk • Variance and standard deviation measure volatility of asset returns • Sample variance where • The greater the volatility, the greater the uncertainty/risk = = T t t R R T 1 2 2 ) ( 1 1 σ = = T t t R T R 1 1 Year Actual Return Average Return Deviation from the Mean Squared Deviation 1 .15 .105 .045 .002025 2 .09 .105 -.015 .000225 3 .06 .105 -.045 .002025 ariance = 0045 / (4 ) = 0015 Standard Deviation = 03873 4. 1 2 .105 .015 .000225 Totals .42 .00 .0045 Capital Market Efficiency Variance = .0045 / (4-1) = .0015 Standard Deviation = .03873 10
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Capital Market Efficiency 11
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Importance of Financial Markets nancial markets allow companies governments and • Financial markets allow companies, governments and individuals to increase their utility h th bilit t i t i fi i l t th t th Savers have the ability to invest in financial assets so that they can defer consumption and earn a return to compensate orrowers have better access to the capital that is available so Borrowers have better access to the capital that is available so that they can invest in productive assets nancial markets also provide us with information about
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Chapter 12 - Capital Market Efficiency -Chapter 12 12 Yihui...

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