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Question;Investor;Behavior and Capital Market EfficiencyMULTIPLE CHOICE QUESTIONS13.1 Competition and Capital Markets;Use the following information to answer;the question(s) below.;Assume that the CAPM is a good;description of stock price returns. The;market expected return is 8% with 12% volatility and the risk-free rate is;3%. New news arrives that does not;change any of these numbers, but it does change the expected returns of the;following stocks;Stock;Expected;Return;Volatility;Beta;Taggart;Transcontinental;8%;28%;1.2;Rearden Metal;13%;40%;1.7;Wyatt Oil;7%;20%;0.8;Nielson Motors;10%;32%;1.3;1) The expected alpha for Taggart;Transcontinental is closest to;A) -3.00%;B) -1.00%;C) 1.00%;D) 3.00%;2) The expected alpha for Wyatt Oil is;closest to;A) -3.00%;B) -1.00%;C) 0.00%;D) 3.00%;3) Which of the following stocks;represent buying opportunities?;1. Taggart Transcontinental;2. Rearden Metal;3. Wyatt Oil;4. Nielson Motors;A) 1 only;B) 1 & 2 only;C) 2 & 3 only;D) 2 & 4 only;4) Which of the following stocks;represent selling opportunities?;1. Taggart Transcontinental;2. Rearden Metal;3. Wyatt Oil;4. Nielson Motors;A) 1 only;B) 1 & 2 only;C) 2 & 3 only;D) 2 & 4 only;5) A stock's alpha is defined as;the stock's;A) expected return minus its required;return.;B) expected return minus its actual;return.;C) nominal return minus its required;return.;D) required return minus its actual;return.;13.2 Information and Rational Expectations;1) When all investors correctly;interpret and use their own information, as well as information that can be;inferred from market prices or the trades of others, they are said to have;A) sensation seeking expectations.;B) positive expectations.;C) rational expectations.;D) confident expectations.;2) The CAPM does not require investors;have homogeneous expectations, but rather that they have;A) rational biases.;B) no biases.;C) heterogenous expectations.;D) rational expectations.;13.3 The Behavior of Individual Investors;1) Investors that suffer from a;familiarity bias;A) prefer not to invest in companies;they are familiar with.;B) favor investments in companies they;are familiar with.;C) invest in the same stocks that their;friends or family recommend.;D) tend to overestimate the precision of;their knowledge.;2) The tendency of uninformed;individuals to overestimate the precision of their knowledge is known as;A) overconfidence bias.;B) herd behavior.;C) familiarity bias.;D) disposition bias.;3) If investors have relative wealth;concerns, they care most about;A) the return on their portfolio;relative to their overall current wealth.;B) the performance of their portfolio;relative to that of their peers.;C) their current portfolio performance;relative to their past portfolio performance.;D) the performance of their current;wealth relative to their past wealth.;4) An individual's desire for intense;risk-taking experiences is known as;A) phenomenon seeking.;B) herd seeking.;C);sensation seeking.;D) rational expectations seeking.;\;5) Which of the following is not true;regarding individual investor behavior.;A) Individual investors fail to;diversify their portfolios adequately.;B) A vast majority of individual;investors hold fewer than 10 stocks in their portfolio.;C) Employees tend to overinvest in their;company's own stock.;D) Individual investors' portfolios;consistently outperform the market averages.;\;13.4 Systematic Trading Biases;Use the following information to answer;the question(s) below.;Consider the price paths of the;following stocks over a six-month period;Stock;January;February;March;April;May;June;Taggart;Transcontinental;$15;$18;$21;$18;$20;$24;Rearden Metal;$30;$22;$16;$24;$30;$36;Wyatt Oil;$20;$21;$23;$24;$26;$26;Nielson Motors;$20;$17;$14;$12;$14;$12;None of these stocks pay dividends.;1) Assume that you are an investor with;the disposition effect and you bought each of these stocks in January. Suppose that it is currently the end of;March, which stocks are you most inclined to sell?;1. Taggart Transcontinental;2. Rearden Metal;3. Wyatt Oil;4. Nielson Motors;A) 1 only;B) 1 & 3 only;C) 2;only;D) 2 & 4 only;\;2) Assume that you are an investor with;the disposition effect and you bought each of these stocks in January. Suppose that it is currently the end of;March, which stocks are you most inclined to hold?;1. Taggart Transcontinental;2. Rearden Metal;3. Wyatt Oil;4. Nielson Motors;A) 1 only;B) 1 & 3 only;C) 2;only;D) 2 & 4 only;\;3) Assume that you are an investor with;the disposition effect and you bought each of these stocks in January. Suppose that it is currently the end of June;which stocks are you most inclined to sell?;1. Taggart Transcontinental;2. Rearden Metal;3. Wyatt Oil;4. Nielson Motors;A) 1 only;B) 1 & 3 only;C) 2;only;D) 1, 2 & 3 only;4) Assume that you are an investor with;the disposition effect and you bought each of these stocks in January. Suppose that it is currently the end of June;which stocks are you most inclined to hold?;1. Taggart Transcontinental;2. Rearden Metal;3. Wyatt Oil;4. Nielson Motors;A) 1 only;B) 4 only;C) 1 & 3 only;D) 2 & 4 only;5) If investors believe that others have;superior information which they can take advantage of by copying their trades;this can lead to;A) an informational cascade effect.;B) a disposition effect.;C) a sensation seeking effect.;D) an overconfidence bias.;6) The tendency to hang on to losers and;sell winners is known as the;A) cascade effect.;B) disposition effect.;C) overconfidence bias.;D) systematic behavior bias.;7) When investors imitate each other's;actions, this is known as ________ behavior.;A) pack;B) flock;C) herd;D) shepherd;13.5 The Efficiency of the Market Portfolio;Use the following information to answer;the question(s) below.;Assume that the economy has three types;of people. 20% are fad followers, 75%;are passive investors, and 5% are informed traders. The portfolio consisting of all informed;traders has a beta of 1.4 and an expected return of 16%. The market has an expected return of 10% and;the risk-free rate is 4%.;1) The alpha for the informed investors;is closest to;A) -2.4%;B) -0.9%;C) 0.0%;D) 3.6%;2) The alpha for the passive investors;is closest to;A) -2.4%;B) -0.9%;C) 0.0%;D) 3.6%;3) The expected return for the fad;follower's portfolio is closest to;A) 11.5%;B) 12.4%;C) 13.6%;D) 16.0%;+.;Use the following information to answer;the question(s) below.;John Galt is a mutual fund manager at;Atlas Asset Management. He can generate;an alpha of 2% a year up to $500 million of invested capital. After that amount his skills are spread too;thin, so he cannot add value and his alpha is zero for all investments over;$500 million. Atlas Asset Management;charges a fee of 0.80% on the total amount of money under management. Assume that there are always investors;looking for positive alpha investments and no investor would invest in a fund;with a negative alpha. Assume that the fund is in equilibrium, meaning that no;investor either takes out money or wishes to invest new money into the fund.;4) The expected return for the fad;follower's portfolio is closest to;A) -0.9%;B) 0.0%;C) 3.6%;D) 6.0%;5) The alpha that investors in Galt's;fund expect to receive is closest to;A) -0.80%;B) 0.00%;C) 0.80%;D) 1.80%;6) The amount of money that Galt's fund;will have under management is closest to;A) $500 million;B) $600 million;C) $1,000 million;D) $1,250 million;7) The amount of fee income that Galt's;fund will generate is closest to;A) $3.75 million;B) $8.00 million;C) $10.00 million;D) $25.00 million;8) A stock's ________ measures the;stock's return relative to that predicted based on its beta, at the time of;some event.;A) excessive abnormal return;B) cumulative average return;C) excessive predicted return;D) cumulative abnormal return;13.6 Style-Based Anomalies and the Market;Efficiency Debate;Use the following information to answer;the question(s) below.;Stock;Market;Capitalization;Expected;Liquidating;Dividend;Beta;Taggart;Transcontinental;$800;$920;1.10;Rearden Metal;$600;$720;1.20;Wyatt Oil;$1,000;$1,100;0.80;Nielson Motors;$400;$500;1.40;All amounts are in millions.;1) The correlation between the expected;return and the market capitalization of these stocks is;A) negative.;B) positive.;C) zero.;D) Unable to determine with the;information given;2) If the risk-free rate is 3% and the;market risk premium is 5%, then the CAPM's predicted expected return for Wyatt;Oil is closest to;A) 7.0%;B) 8.5%;C) 9.0%;D) 9.5%;3) If the risk-free rate is 3% and the;market risk premium is 5%, then the CAPM's predicted expected return for Wyatt;Oil is closest to;A) 8.5%;B) 9.0%;C) 9.5%;D) 10.0%;4) Which of the following statements is;false?;A) If the market portfolio is efficient;then all securities and portfolios must plot on the SML, not just individual;stocks.;B) For most stocks the standard errors;of the alpha estimates are large, so it is impossible to conclude that the;alphas are statistically different from zero.;C) It is not difficult to find;individual stocks that, in the past have not plotted on the SML.;D) Small stocks (those with lower market;capitalization) have lower average returns.;5) Which of the following statements is;false?;A) The size effect is the observation;that small stocks have positive alphas.;B) When considering portfolios formed;based on the market-to-book ratio, most of the portfolios plot below the;security market line.;C) The largest alphas occur in the;smallest size deciles.;D) When considering portfolios formed;based on size, although the portfolios with the higher betas yield higher;returns, most size portfolios plot above the security market line.;6) Which of the following statements is;false?;A) Portfolios with high market;capitalizations will have positive alphas if the market portfolio is not;efficient.;B) The book-to-market is the observation;that firms with high book-to-market ratios have positive alphas.;C) If the market portfolio is not;efficient, then a portfolio of high book-to-market stocks will likely have;positive alphas.;D) Portfolios with low book-to-market;rations will have negative alphas if the market portfolio is not efficient.;7) Which of the following statements is;false?;A) A momentum strategy is one where you;buy stocks that have had low past returns and (short) sell stocks that have had;high past returns.;B) Over the years since the discovery of;the CAPM, it has become increasing clear to researchers and practitioners alike;that forming portfolios based on market capitalization, book-to-market ratios;and past returns, one can construct trading strategies that have a positive;alpha.;C) Portfolios containing firms with the;highest realized returns over the previous six months have positive alphas over;the next six months.;D) If the market portfolio is not;efficient, then a portfolio of small stocks will likely have positive alphas.;Use the figure for the question(s);below.;Consider the following graph of the;security market line;8) Portfolio "B;A) is less risky than the market;portfolio.;B) is overpriced.;C) has a positive alpha.;D) falls above the SML.;9) Portfolio "A;A) has a relatively lower expected;return than predicted.;B) has a positive alpha.;C) falls below the SML.;D) is overpriced.;10) Portfolio "C;A) is less risky than the market;portfolio.;B) has a relatively lower expected;return than predicted.;C) is underpriced.;D) has a negative alpha.;11) Portfolio "D;A) falls below the SML.;B) has a negative alpha.;C) is overpriced.;D) offers an expected return equal to;the risk-free rate.;12) The market portfolio;A) is underpriced.;B) has a positive alpha.;C) is overpriced.;D) falls on the SML.;13) Which of the following statements;regarding portfolio "A" is/are correct?;1. Portfolio "A" has a positive alpha.;2. Portfolio "A" is overpriced.;3. Portfolio "A" is less risky than;the market portfolio.;4. Portfolio "A" should not exist if;the market portfolio is efficient.;A) 1 and 2;B) 1, 3, and 4;C) 1 and 3;D) 1, 2, 3, and 4;14) Which of the following statements;regarding portfolio "B" is/are correct?;1. Portfolio "B" has a positive alpha.;2. Portfolio "B" is overpriced.;3. Portfolio "B" is less risky than;the market portfolio.;4. Portfolio "B" should not exist if;the market portfolio is efficient.;A) 2 and 4;B) 4 only;C) 1, 3, and 4;D) 1 and 4;15) Which of the following statements;regarding portfolio "C" is/are correct?;1. Portfolio "C" has a negative alpha.;2. Portfolio "C" is overpriced.;3. Portfolio "C" is less risky than;the market portfolio.;4. Portfolio "C" should not exist if;the market portfolio is efficient.;A) 1 and 3;B) 2 and 4;C) 1, 3, and 4;D) 3 only;Use the information for the question(s);below.;Consider two firms, ChihuahuaCorporation;and Bernard Industries that are each expected to pay the same $1.5 million;dollar dividend every year in perpetuity.;Chihuahua Corporation is riskier and has a cost of capital of 15%. Bernard Industries is not as shaky as;Chihuahua, so Bernard has a cost of capital of only 10%. Assume that the market portfolio is not;efficient. Both stocks have the same;beta and the CAPM would assign them both an expected return of 12% to both.;16) The market value for Chihuahua is;closest to;A) $10.0 million;B) $12.5 million;C) $12.0 million;D) $15 million;17) The market value for Bernard is;closest to;A) $12.0 million;B) $10 million;C) $15.0 million;D) $12.5 million;18) The alpha for Chihuahua is closest;to;A) +2%;B) -5%;C) -3%;D) +3%;19) The alpha for Bernard is closest to;A) +5%;B) -2%;C) -3%;D) +2%;20) Various trading strategies appear to;offer non-zero alphas when we examine real world data. If indeed these alphas are positive, it could;be explained by any of the following except;A) Investors are systematically ignoring;positive-NPV investment opportunities.;B) The market portfolio is inefficient;but the market portfolio proxy used to calculate the alphas is efficient.;C) A stock's beta with the market;portfolio does not adequately measure a stock's systematic risk.;D) The positive alpha trading strategies;contain risk that investors are unwilling to bear but the CAPM does not;capture.;21) Which of the following is not an;investment likely to be found in any proxy for the market portfolio?;A) Human capital;B) Stocks;C) Bonds;D) Precious metals;22) Which of the following statements is;false?;A) If the CAPM correctly computes the;risk premium, investors would stop investing only when they expected the alpha;of an investment strategy to be negative.;B) If the CAPM correctly computes the;risk premium, an investment opportunity with a positive alpha is a positive NPV;investment opportunity.;C) If the CAPM correctly computes the;risk premium, investors should flock to invest in positive alpha stocks.;D) Anyone can implement a momentum;trading strategy and therefore generate a positive investment opportunity.;23) Which of the following statements is;false?;A) If indeed alphas are positive, it is;possible that the positive alpha trading strategies contain risk that investors;are unwilling to bear but the CAPM does not capture.;B) If indeed alphas are positive, it is;possible that the costs of implementing investment strategies are larger than;the NPVs of undertaking them.;C) If indeed alphas are positive, then;investors have to be systematically ignoring positive-NPV investments;opportunities.;D) The only way a positive NPV;investment opportunity can exist in a market is if some barrier to entry;restricts competition.;24) Which of the following statements is;false?;A) The existence of the momentum trading;strategy has been widely known for at least ten years.;B) The information required to implement;a momentum strategy is not readily available to investors.;C) If the market portfolio is not;efficient, then a stock's beta with the market is not an adequate measure of;its systematic risk.;D) If the market portfolio is not;efficient, then the so-called profits from a positive alpha trading strategy;are really returns for bearing risk that investors are averse to and the CAPM;doesn't capture.;25) Which of the following statements is;false?;A) A significant fraction of investors;might care about aspects of their portfolios other than expected return and;volatility, and so would be unwilling to hold inefficient investment;portfolios.;B) Although the true market portfolio of;all invested wealth might be efficient, the proxy portfolio might not track the;actual market very well.;C) We might be using the wrong proxy;portfolio when we calculate alphas.;D) The true market portfolio consists of;all traded investment wealth in the economy.

 

Paper#44911 | Written in 18-Jul-2015

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