Chapter 11 - The Efficient Market Hypothesis
11-1
CHAPTER 11: THE EFFICIENT MARKET HYPOTHESIS
PROBLEM SETS
1.
The correlation coefficient between stock returns for two non-overlapping periods
should be zero. If not, one could use returns from one period to predict returns in later
periods and make abnormal profits.
2.
No. Microsoft’s continuing profitability does not imply that stock market investors who
purchased Microsoft shares after its success was already evident would have earned an
exceptionally high return on their investments.
3.
Expected rates of return differ because of differential risk premiums.
4.
No. The value of dividend predictability would be already reflected in the stock
price.
5.
Over the long haul, there is an expected upward drift in stock prices based on their fair
expected rates of return. The fair expected return over any single day is very small (e.g.,
12% per year is only about 0.03% per day), so that on any day the price is virtually
equally likely to rise or fall. However, over longer periods, the small expected daily
returns accumulate, and upward moves are indeed more likely than downward ones.
6.
c.
This is a predictable pattern in returns which should not occur if the weak-form
EMH is valid.
7.
c.
This is a classic filter rule which should not produce superior returns in an
efficient market.
8.
b.
This is the definition of an efficient market.
9.
c.
The P/E ratio is public information and should not be predictive of abnormal
security returns.

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