LOS b, (Part 2): Identify various market anomalies and explain their implications for the EMH.

Q1. Which of the following statements about the various tests of the efficient market hypothesis (EMH) is INCORRECT?

A)   The historical performance of professional money managers supports the semi-strong form of the EMH.

B)   The superior historical performance of exchange specialists and corporate insiders rejects the semi-strong form of the EMH.

C)   Tests of the semi-strong form EMH give mixed results. Time-series tests such as dividend yield and default spread reject the semi-strong form EMH while event studies of stock splits and announcements of accounting changes support it.

Q2. Which of the following efficient markets studies suggests that securities markets are semistrong-form efficient?

A)   Calendar studies.

B)   Small-firm effect.

C)   Short-term stock splits.

Q3. Banz and Reinganum found that small firms consistently outperformed large firms. This anomaly is referred to as the:

A)   large firm effect.

B)   size effect.

C)   growth effect.

Q4. The opportunity to take advantage of the downward pressure on stock prices that result from end-of-the-year tax selling is known as the:

A)   January anomaly.

B)   end-of-the-year effect.

C)   end-of-the-year anomaly.

Q5. Which of the following groups of stocks do NOT tend to show above average returns over time?

A)   Small stocks.

B)   Stocks with low Book Value to Market Value (BV/MV).

C)   Neglected stocks.

Q6. Which of the following would provide evidence against the semistrong form of the efficient market theory?

A)   Trend analysis is worthless in determining stock prices.

B)   Low P/E stocks tend to have positive abnormal returns over the long run.

C)   All investors have learned to exploit signals related to future performance.

Q7. Many academics claim that a particular anomaly's results reflect the inability of the asset pricing model to provide a complete measure of risk. Which of the following anomalies are the academics discussing?

A)   The size effect.

B)   Initial public offerings.

C)   The neglected firm effect.

LOS b, (Part 2): Identify various market anomalies and explain their implications for the EMH.fficeffice" />

Q1. Which of the following statements about the various tests of the efficient market hypothesis (EMH) is INCORRECT?

A)   The historical performance of professional money managers supports the semi-strong form of the EMH.

B)   The superior historical performance of exchange specialists and corporate insiders rejects the semi-strong form of the EMH.

C)   Tests of the semi-strong form EMH give mixed results. Time-series tests such as dividend yield and default spread reject the semi-strong form EMH while event studies of stock splits and announcements of accounting changes support it.

Correct answer is B)

The superior historical performance of exchange specialists and corporate insiders rejects the strong form of the EMH.

The other statements are correct. Statistical and trading rule tests support the weak-form EMH contention that security prices reflect all historical market information and that mechanical trading rules do not result in superior returns. Cross-sectional tests such as the price-earnings ratio, neglected firms tests, and book value to market value tests reject the semi-strong form of the EMH. These tests show that certain stocks have high realized returns (for example, low P/E stocks and high book value to market value stocks). Tests show that professional money managers perform no better than a random buy and hold strategy. This supports the semi-strong form EMH contention that stock prices reflect all public information. (Aside from corporate insiders and specialists, no group has monopolistic access to information that would result in superior returns.)

Q2. Which of the following efficient markets studies suggests that securities markets are semistrong-form efficient?

A)   Calendar studies.

B)   Small-firm effect.

C)   Short-term stock splits.

Correct answer is C)

Results of empirical tests suggest that there are no short-run or long-run impacts on security returns due to stock splits. This supports the semistrong-form efficient market hypothesis (EMH). Evidence of excess returns has been found for calendar effects and small firms.

Q3. Banz and Reinganum found that small firms consistently outperformed large firms. This anomaly is referred to as the:

A)   large firm effect.

B)   size effect.

C)   growth effect.

Correct answer is B)

The size effect indicates that small firms consistently experienced significantly larger risk-adjusted returns than larger firms.

Q4. The opportunity to take advantage of the downward pressure on stock prices that result from end-of-the-year tax selling is known as the:

A)   January anomaly.

B)   end-of-the-year effect.

C)   end-of-the-year anomaly.

Correct answer is A)        

The January Anomaly is most likely the result of tax induced trading at year end. An investor can profit by buying stocks in December and selling them during the first week in January.

Q5. Which of the following groups of stocks do NOT tend to show above average returns over time?

A)   Small stocks.

B)   Stocks with low Book Value to Market Value (BV/MV).

C)   Neglected stocks.

Correct answer is B)

Most empirical evidence suggests that the greater the ratio of book value/market value, the greater the risk adjusted rate of return. Small, neglected and low P/E stocks have all shown evidence of excess returns.

Q6. Which of the following would provide evidence against the semistrong form of the efficient market theory?

A)   Trend analysis is worthless in determining stock prices.

B)   Low P/E stocks tend to have positive abnormal returns over the long run.

C)   All investors have learned to exploit signals related to future performance.

Correct answer is B)

P/E information is publicly available information and therefore this test relates to the semistrong-form EMH. Trend analysis is based on historical information and therefore relates to the weak-form EMH. In an efficient market one would expect 50% of pension fund managers to do better than average and 50% of pension fund managers to do worse than average. If all investors exploit the same information no excess returns are possible.

Q7. Many academics claim that a particular anomaly's results reflect the inability of the asset pricing model to provide a complete measure of risk. Which of the following anomalies are the academics discussing?

A)   The size effect.

B)   Initial public offerings.

C)   The neglected firm effect.

Correct answer is A)

Many academics believe that the size effect is an anomaly due to the capital asset pricing model's (CAPM) inability to provide a complete measure of risk.

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