CHAPTER 13

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Unformatted text preview: chance or, in other words, a coincidence. c. Market Inefficiency: One key to market efficiency is the high level of competition among participants in the market. For small stocks, the level of competition is relatively low because major market participants (e.g., mutual funds and pension funds) are biased toward holding the securities of larger, well­known companies. Thus, it is likely that the market for small stocks is fundamentally different from the market for larger stocks and hence, it is quite plausible that the small­firm effect is simply a reflection of market inefficiency. 13. Not true. If everyone believes that patterns exist, all will look for these patterns and all will trade based on such patterns. But such trading itself will destroy the patterns. Remember that we cannot all get rich simultaneously. 14. There are several ways to approach this problem, but all (when done correctly!) should give approximately the same answer. We have chosen to use the regression analysis function of an electronic spreadsheet program to calculate the alpha and beta for each security. The regressions are in the following form: Security return = alpha + (beta ´ market return) + error term The results are: A l pha Beta Executive Cheese ­0.89 0.50 Paddington Beer ­0.51 2.01 (As a point of interest, the R2 for the Executive Cheese regression is 0.082, which is relatively low for a regression of this type. For Paddington Beer, it is 0.74, a relatively high value.) The abnormal return...
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