Reading 14: Alpha Hunters and Beta Grazers －LOS a, (Part 1) market

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CFA Institute Area 3-5, 7, 12, 14-18: Portfolio Management
Session 3: Behavioral Finance
Reading 14: Alpha Hunters and Beta Grazers
LOS a, (Part 1): Contrast chronic market inefficiencies with acute inefficiencies.

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Which of the following sources of market inefficiency would be most easily exploited?

A) A stock is overpriced because traders are restricted from short sales.

B) An emerging market stock is underpriced because of capital regulations.

C) Stocks are overvalued because investors are exuberant over increased productivity in the economy.

D) A stock price drops suddenly due to a large block sale by an institution.

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Answer and Explanation

Acute market inefficiencies are temporary in nature and are more easily exploited than chronic inefficiencies. A temporary drop in a stock price due to a large sale would be more easily exploited than the chronic inefficiencies mentioned in the other responses.

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Which of the following sources of market inefficiency are least likely to be used by a hedge fund to earn excess returns? Mispricing that is due to behavioral investors:

A) process versus outcome bias.

B) price target revision bias.

C) temporary bias.

D) correlating emotions with the market bias.

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Answer and Explanation

Acute market inefficiencies are temporary in nature and are less likely to be used by investors such as hedge funds to exploit market inefficiencies. The other responses refer to chronic inefficiencies and are more likely to be used by investors to exploit market inefficiencies. Ironically, chronic inefficiencies are actually harder to exploit than acute inefficiencies.

miguelliu

 thx

pundit

a