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Chapter 14 - Efficient Capital Markets and Behavioral Challenges

47. An example of financially irrational behavior is: A. gambling in Las Vegas.

B. when a firm announces an increase in earnings and the stock price enjoys three days of large abnormal returns.

C. when a firm announces an increase in earnings and the stock price enjoys an immediate surge in value which is captured in one day. D. Both A and B. E. Both A and C.

48. Ritter's study of Initial Public Offerings (IPOs) showed that the post offering stock performance was:

A. less than the control group by about 2% in the five years following the IPO.

B. incorrectly priced at issuance because over the next five years the abnormal returns were greater than zero on average.

C. immaterial to the pricing of the IPO because future market performance is unknown at issuance.

D. equal across IPOs, irrespective of risk or which year they were issued. E. All of the above.

49. If the securities market is efficient, an investor need only throw darts at the stock pages to pick securities and be just as well off.

A. This is true because there are no differences in risk and return.

B. This is true because in an efficient stock market prices do not fluctuate.

C. This is false because professional portfolio managers prefer to generate commissions by active trading.

D. This is false because investors may not hold a desirable risk-return combination in their portfolio.

E. This is false because the markets are controlled by the institutional investors.

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Chapter 14 - Efficient Capital Markets and Behavioral Challenges

50. Financial managers must be cognizant of market efficiency because: A. manipulating earnings by accounting changes does not fool the market.

B. timing security sales is futile because without private information the current price reflects all known information.

C. there is limited price pressure from any large sale of stock depressing prices only momentarily before recovering to prior levels. D. All of the above. E. None of the above.

51. Event studies have been used to examine: A. IPOs, SEOs, and other equity issuances. B. changes in earnings.

C. mergers and acquisitions. D. most financial events. E. All of the above.

52. If the market is weak form efficient: A. semistrong form efficiency holds. B. strong form efficiency must hold. C. semistrong form efficiency may hold. D. markets are not weak form efficient. E. None of the above.

53. In order to create value from capital budgeting decisions, the firm is likely to: A. locate an unsatisfied demand for a particular product or service. B. create a barrier to make it more difficult for other firms to compete. C. produce products or services at a lower cost than the competition. D. A and C. E. A, B, and C.

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Chapter 14 - Efficient Capital Markets and Behavioral Challenges

54. Valuable financing opportunities can be created by: A. fooling investors.

B. reducing costs or increasing subsidies. C. the creation of a new security. D. A and B. E. A, B, and C.

55. The following time period(s) is/are consistent with the bubble theory: A. the stock market crash of 1929. B. the stock market crash of 1972. C. the stock market crash of 1987. D. A and C. E. A, B, and C.

56. In the five years after the offering, ___ underperform matched control groups. A. initial public offerings B. seasoned equity offerings C. bond offerings D. A and B E. A, B, and C

57. In the three years prior to a forced departure of management, stock prices, adjusted for market performance, on average will: A. decline about 20%. B. decline about 40%. C. decline about 60%. D. remain stable.

E. increase about 20%.

Essay Questions

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Chapter 14 - Efficient Capital Markets and Behavioral Challenges

58. Define the three forms of market efficiency.

59. Explain why it is that in an efficient market, investments have an expected NPV of zero.

60. Do you think the lessons from capital market history will hold for each year in the future? That is, as an example, if you buy small stocks will your investment always outperform U.S. Treasury bonds?

61. Suppose your cousin invests in the stock market and doubles her money in a single year while the market, on average, earned a return of only about 15%. Is your cousin's performance a violation of market efficiency?

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