kasinkei

What is the main difference between probit models and typical dummy variable models?

A) There is no difference--a probit model is simply a special case of a dummy variable regression.

B) A dummy variable represents a qualitative independent variable, while a probit model is used for estimating the probability of a qualitative dependent variable.

C) Dummy variable regressions attempt to create an equation to classify items into one of two categories, while probit models estimate a probability.

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Dummy variables are used to represent a qualitative independent variable. Probit models are used to estimate the probability of occurrence for a qualitative dependent variable.

kasinkei

An analyst has run several regressions hoping to predict stock returns, and wants to translate this into an economic interpretation for his clients.

Return = 3.0 + 2.0Beta – 0.0001MarketCap (in billions) + ε

A correct interpretation of the regression most likely includes:

A) a billion dollar increase in market capitalization will drive returns down by 0.01%.

B) a stock with zero beta and zero market capitalization will return precisely 3.0%.

C) prediction errors are always on the positive side.

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The coefficient of MarketCap is 0.01%, indicating that larger companies have slightly smaller returns. Note that a company with no market capitalization would not be expected to have a return at all. Error terms are typically assumed to be normally distributed with a mean of zero

kasinkei

Mary Steen estimated that if she purchased shares of companies who announced restructuring plans at the announcement and held them for five days, she would earn returns in excess of those expected from the market model of 0.9%. These returns are statistically significantly different from zero. The model was estimated without transactions costs, and in reality these would approximate 1% if the strategy were effected. This is an example of:

A) statistical significance, but not economic significance.

B) statistical and economic significance.

C) a market inefficiency.

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The abnormal returns are not sufficient to cover transactions costs, so there is no economic significance to this trading strategy. This is not an example of market inefficiency because excess returns are not available after covering transactions costs.