63. The notion that stock prices reflect all current available information:
a. makes the risk of holding stocks greater.
b. indicates that mutual fund managers will not, on average, outperform market averages.
c. says stock prices should be more rigid than they are.
d. makes it easier to predict the movements in the price of a stock.
64. People who claim to have the ability to accurately predict the future prices of stocks:
a. are strong advocates of the theory of efficient markets.
b. should be looked at with skepticism, unless they have information not available to others.
c. are unusually lucky, and should be listened to intently.
d. are always psychologists.
65. In the first calendar quarter a company issues a surprising report saying that it expects profits to
rise in the fourth quarter. The theory of efficient markets says we should expect the price of the
company’s stock to:
a. rise in the fourth quarter when the higher profits are actually seen.
b. fall immediately as stockholders will be disappointed about having to wait until the fourth
quarter for higher profits.
c. rise immediately on the expectation of higher profits in the future.
d. rise around the third quarter since this information will take time to disseminate.
66. According to the theory of efficient markets:
a. investors use rules of thumb to make choices about which stocks to buy and sell.
b. investors are able to use forecasts based on the dividend-discount model to generate above-
average returns.
c. a portfolio manager who charges no commission should not, on average, outperform an
individual investor with access to the same funds.
d. the stock price should remain constant.
67. According to the theory of efficient markets, mutual fund managers may be expected to earn
above-average returns if they:
a. take on less risk.
b. have access to illegal, private information.
c. participate in efficient markets.
d. have learned from investing in the same stocks repeatedly.
68. Stocks appear to present risk, yet many people have substantial parts of their wealth invested
in them. This behavior could be explained by:
a. people are irrational in their investment behavior, only focusing on positive outcomes.
b. people are not very risk-averse and do not require a risk premium for stocks.
c. investing in stocks over the long run is not as risky as short-term holdings of stocks
d. people are not efficient users of information.
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69. Professor Jeremy Siegel, of the University of Pennsylvania, did research showing that:
a. owning stocks over the long run produces returns below the risk-free return.
b. if an investor owns stocks for a very short time the risk is greater than if the stocks are held for
a long time.
c. the return on the S&P 500 for a 25-year period often produces returns below zero.
d. bonds really are less risky to hold over the long term.
70. Professor Jeremy Siegel, of the University of Pennsylvania, conducted research that showed
that:
a. over the long run, stocks have been less risky than bonds.
b. over the long run, bonds have been less risky than stocks.
c. over the long run, bonds frequently outperform stocks.
d. investors should only own stocks for short periods of time to maximize returns.
71. Mutual funds are characterized by the fact that they all:
a. have the same management fee set by regulation.
b. require the same minimum investment of $10,000.
c. provide some degree of diversification.
d. provide the same degree of liquidity.
72. Management fees for mutual funds are:
a. fixed by regulation.
b. fixed by regulation and can vary by the size of the fund. c.
usually a percentage of the gains the fund achieves.
d. usually a percentage of the funds under management.
73. Management fees for mutual funds are:
a. different across funds and can significantly impact the return to an investor. b.
fixed by regulation.
c. fixed by regulation but can vary by the size of the fund.
d. usually a percentage of the return achieved by fund managers.
74. Index funds are often preferred to other mutual funds because:
a. they offer greater diversification. b.
they are managed better.
c. they have greater liquidity.
d. on average they have lower management fees.
75. When stock prices reflect fundamental values:
a. all investors will have positive returns.
b. the allocation of resources will be more efficient.
c. all companies will have an easier task of obtaining financing for investment projects. d.
the overall level of the stock market should move higher.
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76. The fact that returns from the stock market are less volatile over long-periods of time
suggests that:
a. investors are more risk averse over the long run. b.
stock markets are efficient.
c. people get comfortable with the stocks they own.
d. stock market bubbles have become more common.
77. Stock market bubbles are:
a. the increase in a stock’s price resulting from reported higher profits by a firm.
b. persistent and expanding gaps between stocks’ actual prices and the prices warranted by the
fundamentals.
c. synonymous to stock market crashes.
d. those periods of time when the overall level of the stock market is rising at a slow rate
reflecting market fundamentals.
78. Stock market bubbles typically lead to all of the following except:
a. an efficient allocation of resources. b.
stock market crashes.
c. patterns of volatile returns from the stock market.
d. gaps between actual stock prices and those warranted by the fundamentals.
79. Which of the following could cause a stock market bubble?
a. Changes in the real interest rate
b. Better enforcement of insider trading laws
c. Investor euphoria
d. Changes in dividends
80. Why are stock market bubbles costly for the economy?
a. They imply that the actual stock price is equal to the fundamental value of the stock. b.
They hurt consumers more than corporations.
c. They lead to a reduction in real investment in both the short-term and long-term. d.
81. Companies whose stocks increase the most during a stock market bubble will:
a. have a difficult time raising investment capital. b.
tend to under-invest.
c. usually rebound faster once the bubble bursts.
d. find it difficult to put their capital to profitable use after the bubble bursts. Ans:
82. The stock market bubble of the late 1990s and early 2000s:
a. saw internet and computer technology companies over-invest.
b. saw an efficient allocation of resources toward the high-growth computer/internet sector.
c. was a good example of the theory of efficient markets.
d. was an example that not all bubbles burst.
83. Stock market bubbles impact consumers by:
a. encouraging greater consumption and greater saving.
b. encouraging greater consumption and less saving.
c. encouraging more work and delaying retirement.
d. resulting in less investment in home ownership and more into stocks.
84. Some good did come from the internet bubble of the late 1990s. One good thing was that:
a. people learned they should not invest in dotcom companies.
b. start-up companies found they could bypass venture capitalists and raise funds directly from
the capital markets.
c. stock market bubbles do not have to result in an inefficient allocation of resources.
d. the theory of efficient markets doesn’t always hold and consistently better-than-market returns
are achievable.
85. The Nasdaq Composite Index:
a. is made of of mainly newer, smaller firms.
b. is a price–weighted index.
c. is made up of over 5000 companies traded on the NYSE.
d. is made of mainly older firms and is heavily weighted by manufacturing.
Short Answer Questions
86. Explain why being a residual claimant can increase the risk from owning stocks.
87. Does the concept of limited liability make owning stocks more or less attractive? Explain.
88. Explain why the willingness to purchase stocks is influenced heavily by shareholders’ legal
rights with respect to control of the corporation.
89. Why isn’t the actual level of an index, for example the Dow Jones Industrial Average, very
useful on its own?
90. You have a price-weighted index made up of two stocks, A and B. The price of A equals
$30 and the price of B equals $70. What is the current value of this index? Also, what will be the
percentage change in the index resulting from a 10 % increase only in the price of A? A 10%
increase only in the price of B?
91. Why does the Dow Jones Industrial Average have a value over 15,000 when the 30 stocks
that make up the index all have values less than $200 per share?
92. The Standard & Poor‘s 500 Index differs from the DJIA in at least two major respects. What
are the two major differences?
93. You have a value-weighted index made up of two companies. One company, we will call A,
has a stock price of $25 per share and there are 10,000 shares outstanding. The other
com
p
a
ny, w
e
will call B, has a stock price of $100 per share and has 1000 shares outstanding. What will be the
percentage change in the index from a 10% increase in the share price of company A? What will be
the percentage change in the index from a 10% increase in the share price of company B?
94. Compare/contrast the Nasdaq Composite Index with the Dow Jones Industrial Average.
95. Why must caution be employed in comparing stock indexes across countries?
96. Briefly explain the different focus of valuing stocks taken by behavioralists, chartists, and
fundamentalists.
97. Many small companies currently pay no dividends to their shareholders. Based on the
dividend discount model, how is it possible for these stocks to sell for a positive price?
98. What price would an individual be willing to pay today for a stock he/she expects can be
sold for $200 one year from now, if the individual has a discount rate of 6% (.06) and the stock
pays an annual dividend of $7.50?