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Unformatted text preview: market’s direction. Remember the first lesson of market efficiency: Markets have no memory. The decision as to when to issue stock should be made without reference to ‘market cycles.’ 11. The efficient­market hypothesis says that there is no easy way to make money. Thus, when such an opportunity seems to present itself, we should be very skeptical. For example: In the case of short­ versus long­term rates, and borrowing short­term versus long­ term, there are different risks involved. For example, suppose that we need the money long­term but we borrow short­term. When the short­term note is due, we must somehow refinance. However; this may not be possible, or may only possible at a very high interest rate. In the case of Japanese versus United States interest rates, there is the risk that the Japanese yen ­ U.S. dollar exchange rate will change during the period of time for which we have invested. 12. Some key points are as follows: a. Unidentified Risk Factor: From an economic standpoint, given the information available and the number of participants, it is hard to believe that any securities market in the U.S is not very efficient. Thus, the most likely explanation for the small­firm effect is that the model used to estimate expected returns is incorrect, and that there is some as­yet­unidentified risk factor. b. Coincidence: In statistical inference, we never prove an affirmative fact. The best we can do is to accept or reject a specified hypothesis with a given degree of confidence. Thus, no matter what the outcome of a statistical test, there is always a possibility, however slight, that the small­firm effect is simply the result of statistical...
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